The Shanghai-Hong Kong Stock Connect scheme launches on Monday with the issue of capital gains tax now resolved.
Brokers have already begun offering incentives in an attempt to grab business and it remains to be seen how successful they will be. Very, according to analysts.
The scheme will generate Rmb5 billion ($833 million) in additional revenue for Chinese brokerage houses in the first year, equal to 6.6% of what they raked in during 2013, according to rating agency Moody's.
Moody’s estimate is based on a forecast of a maximum 10% increase in daily trading volume. Goldman Sachs research analysts offered a less excitable outlook, estimating 1% more average daily turnover for mainland brokers versus 3% more for Hong Kong brokers.
Either way, Stock Connect has already had an impact. Since April, when the scheme was announced, the average daily trading volume of the Shanghai Stock Exchange has increased to $30 billion from $9.9 billion.
This suggests domestic brokers have already tripled their commission gains, assuming the fee rates remain at the same level of 0.08%.
Clarification on Friday from the Ministry of Finance, China Securities Regulatory Commission and the State Administration of Taxation on the capital gains tax issue should only add to trading volume.
China will waive capital-gains tax for foreign investors buying A-shares for an unspecified period, while mainland investors will be exempt from income tax on buying H-shares for three years. However, mainland individuals will be liable for tax on dividends.
“Operating the HK-SH Stock Connect scheme is, in a sense, a significant and decisive step in the monetary authorities’ learning curve on how to manage the risks of capital account opening,” said XD Chen, chief economist at BNP Paribas.
Mainland brokers such as Citic Securities and Haitong Securities have bet heavily on capturing cross-border flows, bulking up significantly in Hong Kong in anticipation of reforms such as Stock Connect.
Citic bought Asian broker CLSA, which significantly boosted its staff expenses as part of its efforts to globalise and escape its highly-competitive domestic market where margins have been squeezed.
Mainland brokers already have extensive research coverage of mid-sized mainland companies but still lack a significant international distribution network and relationships with the largest funds.
To be sure, Chinese brokers' advance into international markets will be met by fierce competition from global investment banks. They will also face foreign competitors on their home turf.
Furthermore, mainland Chinese funds have very specific investment mandates and almost all will need to raise new funds to trade overseas, which will take time.
Local brokers may also struggle to improve market share and attract foreign fund clients given the extra administration and risk incurred by signing up with new brokers.
Of course, the Stock Connect programme will benefit all brokers in the long term as China continues to open its capital markets.
Among Chinese brokers, Citic Securities, Haitong Securities and China Merchants Securities will benefit the most due to having both northbound and southbound flows, given their more established operations in Hong Kong, according to Moody’s.
While the scheme will attract more retail investors, especially high-net worth individuals, to open accounts with the brokers, it will also widen their client base, open up cross-selling and provide new product opportunities.
The A-shares of the three securities houses have surged 45.8%, 28.7% and 33.8% since April, respectively. The H-shares of Citic Securities and Haitong Securities have increased 24.8% and 39.5%. The A-and H-share markets have risen 16% and 8.5%, respectively.
“For the first time, the domestic capital market is open to overseas investors directly. It signals the government is accelerating the pace of capital market reforms and more opportunities will appear,” said Pan Hongwen, a Shanghai-based analyst at UBS Securities.
Pan expects more trade-links between Hong Kong and Shenzhen, Singapore and Taiwan in the future.
China’s brokers are still comparatively weak as the total assets of the industry accounts for just 3.3% to 6% of the country’s GDP, according to a June research report by China Securities Regulatory Commission. This is much lower than US’s 30% and Japan’s 20%.
Additional reporting by Alison Tudor-Ackroyd
