Despite the anticipation of the launch of the Shenzhen-Hong Kong Stock Connect, there are still concerns that the scheme is unlikely to bring a significant effect to China's mainland stock market or attract international investors. Rising capital withdrawal via the Shanghai-Hong Kong Stock Connect in recent months from global investors, recent sharp yuan depreciation which reduces the dollar value of overseas investment in mainland stocks, and overvalued tech stocks in the Shenzhen market have raised doubts of the incoming Shenzhen-Hong Kong link.
In a sense, the anticipated stock connect probably won't make a big splash in China's mainland stock market in the short run because its aggregate quota would only amount to a very small portion of China's market capitalization. The yuan's depreciation and overvalued tech stocks in Shenzhen aren't the issue.
The recent yuan devaluation in fact has provided an opportunity for institutional international investors to buy mainland stocks at a low price in relation to the dollar and possibly sell high in the future. More importantly, now that the yuan has been included in the IMF's Special Drawing Rights reserve currency basket and as China's A shares are highly likely to be added to the MSCI Emerging Markets Index within the next two years, it is only a matter of time before international investors increase their investment in mainland stocks.
Besides, for overseas investors, whether a Chinese tech stock is overvalued is determined by the valuation models they have built, which will tell if there is space for future gains. If a Chinese tech stock is indeed overvalued, international investors can simply wait for the appropriate time to buy low, and even if they do buy high, there are certain financial instruments to hedge against relevant risks.
Apart from these unnecessary concerns, we need to look deep into the effects of the upcoming stock connect from another angle: Its significance is likely to outweigh the Shanghai-Hong Kong Stock Connect.
First, Shenzhen and Hong Kong are geographically closer. People frequently travel between the two places and there is already solid cooperation in the real economies of each city. In addition, a large number of investors from Shenzhen and Hong Kong have sophisticated knowledge and experience in investing in both capital markets, and the future stock link is expected to attract more of these investors and facilitate cooperation for listed companies in conducting business and financing activities.
Second, the new stock connect mechanism is anticipated to run more smoothly than the Shanghai-Hong Kong link, as investors will be able to efficiently adapt to the new connect's investment guide and can learn from past experiences.
Third, investors with a high risk appetite and a preference in digging out growth stocks will be attracted to the Shenzhen market which is flooded with shares of small- and medium-sized market capitalization. Shenzhen's large amount of listed private enterprises with competitive advantages, such as in innovation and technology, makes its stock market more vigorous than Shanghai's and has the potential to yield higher return rates.
Admittedly, Shanghai is China's economic hub and as a municipality it is more economically developed and resourceful. As such, Shenzhen needs to capitalize on its comparative advantage in innovation and seek further development with Hong Kong. For instance, a metals trading platform, similar to the London Metal Exchange, will reportedly be established in Shenzhen's Qianhai area by the Hong Kong Exchanges and Clearing in 2017. If the trading platform expands into international business and transactions, and settlements are made in yuan in the future, this will help the yuan become another safe-haven currency.
The 2008 US financial crisis has triggered doubts over the value of the dollar and the international financial systems dominated by the dollar. Meanwhile, sluggish economic performance in Europe, the UK and Japan have led to large volatility in the exchange rates of their currencies, leaving the international community limited choices in choosing an international currency.
Yuan transactions and settlements in the metals trading platform could enhance the yuan's internationalization, lower the reliance on the dollar in the global community and reduce the negative impact on the international markets caused by volatility in the dollar. In the case of another financial crisis, the yuan would likely be seen as a safe-haven currency and countries around the world might increase their holdings which would support the yuan's strengths and flatten big fluctuations in the yuan's exchange rate.
The article was compiled by Global Times reporter Wang Wei based on an interview with Liang Haiming, chief economist with Guangzhou-based China iValley Research Institute.
