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The once-closed door to China’s stock market has been cracked opened a wee bit more.
American investors will soon have a new way to gain exposure to a limited number of home-grown stocks in mainland China, and tap the potential growth of the world’s second-biggest economy.
MSCI, a leading global index provider, will now include 222 Chinese stocks, called “A shares,” in its popular emerging-markets stock index, which financial companies have an estimated $1.6 trillion riding on.
Owning a piece of domestic companies in China, home to the world’s second-largest stock market, will be possible this time next year through mutual funds that are run by managers or index funds and ETFs that track the MSCI Emerging Markets Index. By adding “A shares” to the index, an estimated $10 billion in new cash is seen flowing into Chinese stocks, according to Edmund Harriss, manager of Guinness Atkinson’s China & Hong Kong Fund.
Harriss emphasized that MSCI’s decision reflects China’s mounting clout in the financial world. But he cautioned that China is still far from being a free, open stock market that investors from outside the country can access in its entirety.
“It’s a tentative first step toward opening up the stock markets in China to international investors,” he said, noting that current access to domestic China has been mainly through the “Stock Connect” program launched in 2014 that linked mainland markets with the Hong Kong Stock Exchange. This link also allows foreigners to buy A shares in a less restricted manner than previously. “But there still isn’t full access to the A shares market,” adds Harriss. “China hasn’t thrown open the gates yet.”
Indeed, the small number of mainland Chinese shares being added to the index is just a sliver of the country’s overall stock market. These stocks will also make up just a tiny 0.73% weighting in the index, reducing their effect on its performance.
Currently, U.S. investors exposure to Chinese stocks are through companies that trade on Hong Kong (dubbed “H shares”) and U.S. stock exchanges. China stocks — excluding A shares — already have the biggest weighing in MSCI’s Emerging Markets Index.
The inclusion of domestic Chinese shares in the MSCI index should be positive for China’s market, whose reputation has been hurt in recent years by wild price swings, a tendency for stocks to suffer lengthy trading suspensions, government interference, as well as difficulties for foreigners to gain access to them.
MSCI said things are getting better and that they are “hopeful that the momentum of positive change witnessed in China over the past few years will continue to accelerate.”
This latest step in opening up China’s market sets the stage for a day when American and other foreign investors will have access to a full menu of Chinese domestic stocks, which now total an estimated 3,300, said Yu Zhang, lead portfolio manager of the Matthews China Dividend fund.
“For the Main Street U.S. investor, (the opening of China’s market) is more meaningful from a longer-term perspective,” Zhang said. “There are lots of high-quality Chinese companies now listed on overseas exchanges, but by no means does that give you a complete exposure to a big part of the underlying Chinese economy.”
Investors interested in boosting their ownership in China stocks have a number of options:
* Access “A” shares via funds. Starting in June 2018, MSCI investors will be able to buy a piece of the Chinese market via funds. Index funds and ETFs that track the MSCI Emerging Markets Index will add these stocks to their portfolios to better mimic the index’s moves.
Funds run by portfolio managers will also be adding some A shares to their list of stock holdings, adds Lu Yu of Allianz Global Investors, who runs the firm’s Emerging Markets Opportunities Fund. She likes A shares such as Kweichow Moutai, a high-end liquor maker in China. Chinese brokers, such as Guotai Junan, should also benefit from the pickup in trading volume.
* Buy Chinese stocks that trade on U.S. exchanges. There are roughly six dozen Chinese companies whose shares are listed and trade in the U.S, including 59 on the New York Stock Exchange. Perhaps the best-known is Alibaba (BABA), the world’s largest e-commerce company that went public in the U.S. in 2014 and holds the title for the world’s biggest-ever initial public offering (IPO). Other well-known Chinese stocks trading in America include Baidu (BIDU), often referred to as the “Google of China.”
* Invest in U.S. companies with a lot of business in China. Investors can benefit from the growth in China through American companies that generate sizable sales in Beijing, Shanghai and the rest of China. Yum China Holdings (YUMC), for example, has more than 7,200 restaurants, including KFC and Pizza Hut brands, and generated nearly $7 billion in revenue from China last year. Wynn Resorts (WYNN) last year said it got nearly two-thirds of its net revenue from its hotel and gaming operations in Macau.
* Buy stocks and funds that trade in Hong Kong. The so-called H-shares are already widely represented in dozens of ETFs and other funds. The iShares China Large-Cap ETF (FXI), for example, provides exposure to stocks, such as China Construction Bank Corp., Tencent, which is often called the “Facebook of China,” and telecom company China Mobile.