By Nicola Comninos, JSE Head: Equities, Equity Derivatives & Business Intelligence
The future success of capital markets in developing economies will rely on the extent of cooperation between the major stock exchanges in frontier markets. The collaboration between Chinese and the South African stock exchange have grown significantly in recent years and the trend is set to continue.
In February this year, the JSE’s Equity and Equity Derivatives department embarked on a roadshow to China focusing on Shanghai and Beijing, two of China’s most successful economic blocs. While there, the team met with leading private equity funds, brokerage firms, fund managers and local banks with presence in China. Overall, the roadshow was positive for both exchanges, but particularly for the JSE which is looking to increase the level of foreign participation on its markets.
Three key trends emerged from the roadshow: Firstly, the promise of growing investment in South Africa at a fund level; Secondly, the potential of listing on the JSE and; Lastly, Chinese investor preference for the cash equity and bond markets, as it fits within their regulatory framework, which allows investment in offshore cash products once a QDII (Qualified Domestic Institutional Investor) license has been obtained.
As members of the BRICS Exchange Alliance, the core reason behind the visit was to strengthen the Alliance between South Africa and Asia. For the JSE, the strategic intention of the roadshow was to explore ways in which the Shanghai Stock Exchange (SSE), China Financial Futures Exchange (CFFE) and JSE could forge closer ties; increase the extent of Chinese investment flows on the JSE; and promote the JSE as an ideal listing destination for Chinese institutional investors.
Setting the scene
The combined total stock market capitalisation of Shanghai, Shenzhen and Hong Kong stock exchanges is USD11.433.14 billion, making it one of the largest capital markets globally.
The Chinese investor landscape is equally dynamic and comprises of a growing prominence of institutional investors and established retail investor base. Retail investors represent a significant proportion of China’s equity market. According to KPMG, household savings in China totalled USD5 trillion toward the end of 2010 with much of the reserves invested in savings, mutual funds and equities. While the focus of the roadshow was on institutional investors, given the potential of the Chinese retail investor base, we will make a concerted effort to increase Chinese retail investment on our local bourse.
Credit Suisse estimates that China’s capital market is set to grow 15.6 percent a year to $53.6 trillion by 2030. In theory, as South Africa’s second largest trading country, there should be commensurate trade across equities, bonds and derivatives markets between China and South Africa. This is not the case.
Currently, Chinese investment flow ranges between 5 – 10% of the total foreign investment on the JSE. This range is positive given that investment flow from the Asian region was non-existent a few years ago.
We are optimistic that increased Chinese participation on the exchange can take place and has in fact shown signs of great promise. Since the launch of the BRICS Exchange Alliance in 2011, there has been considered efforts by members of the Alliance to up the ante on exposing investors to the dynamic markets of the BRICS formation. In the past four years, this initiative has provided global investors with the opportunity to invest in leading developing markets and also examine cross listings.
There is a trend, or lifecycle to describe the ways in which Chinese investors invest over time: Initial trading is usually quite generic in focus, with investment trends pointing to a lack of awareness of the intricacies of the South African capital market. Once awareness has been established, investors begin to target specific funds focused on a particular industry such as resources and industrials. The final stage is typified by investment in particular equities and is illustrative of a sophisticated understanding of the South African capital markets.
Chinese fund interest
One of the key trends to have emerged from the roadshow was the appetite by Chinese investors to invest in funds that give them exposure to the local market. At the moment, interest is not stock or bond specific. It is targeted towards a fund focused on general African equities and bond exposure where South African instruments and products feature.
Chinese interest in the JSE’s primary market
Another emerging trend is an increasing interest in the JSE’s primary market. There are a number of Chinese deals concluded in Africa that have reached maturity and a listing provides an exit strategy. Of the $4 billion that the China-Africa Development Fund has invested in Africa, $3 billion has been invested in projects in South Africa. One observation made from the roadshow was the interest to take these projects public by listing on the JSE.
Given the nascent collaboration between the two exchanges, it has taken some time to determine which products best suit Chinese investors. At the launch of the BRICS Exchange Alliance the idea was to introduce equity index derivatives and promote cross listings down the line. The first product collaboration was the launch of equity index futures contracts. The success of this has been limited, owing to low liquidity and trading activity due to costs and complications around linking systems across the BRICS market places.
What the JSE has established, is that Chinese interest lies in the cash market, and that later, these investors would venture into instruments offered on the derivatives markets.
Outlook for collaboration
The slowdown in China’s economic growth is not a concern for the JSE. Even with growth projected at 7%, this rate makes China one of the most enviable economies in the world. We are optimistic that the collaboration between Chinese and South African exchanges will continue to strengthen despite the slowdown in economic growth in both countries.
Lack of awareness among Chinese investors is a key constraint to future investment opportunities for the JSE. The only way to counter this is to educate investors on the sophistication of the JSE, its level of liquidity, its robust regulation as well as its competitiveness against some of the most advanced exchanges in the world. Once this awareness has been established, Chinese investors will be interested in increasing their exposure to SA’s financial markets.
The JSE’s collaboration with the SSE is already showing some benefit. While on the roadshow, we met with the China Financial Futures Exchange (CFFE) which is also interested in collaborating with the JSE and other BRICS exchanges. At this stage, the nature of CFFE collaboration is still in discussion, but is a very exciting development, as it points to the growth of the collaboration between the Chinese exchanges and the JSE.
Also in the pipeline is the launch of the 2nd China Africa Capital Markets Conference to take place in Shanghai later this year. Unlike our recent roadshow, this conference will incorporate a larger contingent, including JSE and other African exchanges, South African and Chinese listed companies and members of the exchanges, brokerage firms, asset managers, banks, legal firms, etc. that have interest in China Africa financial markets collaboration.
The interest shown in the JSE was encouraging and reinforced our commitment to work together with Chinese exchanges. We are still far from witnessing the final stages of the lifecycle of foreign investment in which Chinese investors participate more actively in the JSE’s equity market. Through continued collaboration, Chinese exchanges and the JSE should begin to reap benefits from the “collaboration dividend”.