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MSCI’s China plan is clever window dressing
April 28, 2017 / 8:15 AM / 7 months ago

MSCI’s China plan is clever window dressing

HONG KONG (Reuters Breakingviews) - MSCI may get lucky in China this time around. The U.S. index provider has slashed the number of mainland tickers it wants added to equity benchmarks tracked by $1.6 trillion in assets. This face-saving compromise is likely to overcome asset managers’ reluctance to include onshore Chinese stocks after three previous failed attempts. But the new approach is so conservative that the resulting funds flows into China will resemble a rounding error.

An investor reacts in front of an electronic board showing stock information at a brokerage house in Shanghai, China, March 7, 2016. REUTERS/Aly Song

Foreign asset managers have long been torn about incorporating mainland-listed company shares into indexes tracked by passive funds. At present the benchmarks only include Hong Kong-listed shares, shares of Chinese companies listed abroad, and a tiny amount of hard-currency denominated “B-shares” that are technically listed in China. While many global investors want more direct exposure to the world’s second-largest stock market, concerns about investment hurdles in China – particularly investment quota schemes and curbs on the repatriation of profits - have stifled three previous inclusion attempts. This has put MSCI in the uncomfortable position of having to give a public thumbs-down to Beijing’s progress on stock market reform.

Graphic: MSCI tinkers with key benchmark: reut.rs/2oOKG9U

To solve the impasse, MSCI is now proposing to add only 169 Chinese yuan-denominated “A-shares” to its indexes, down from the previous list of 448 names. What remains are all large caps that are tradable via an existing channel between Hong Kong and mainland stock markets that allows investors to trade mainland shares without the complications of setting up shop on the mainland. Weeding out mid-caps and illiquid stocks may also alleviate worries about the trading suspensions and wild fluctuations that are common in China’s retail-dominated exchanges.

But the compromise comes at the expense of market relevance. If the plan goes ahead, A shares will make up only 0.5 percent of the popular MSCI Emerging Market Index, and even less for MSCI’s global benchmark. Goldman Sachs estimates the changes would prompt investors to move an additional $7 billion into mainland shares - a drop in the ocean for a country with a combined $7 trillion of stock market capitalisation.

This baby-step approach may be necessary. But investors won’t get much added exposure to China, and Beijing will still lack the long-term global institutional money it wants to make its market less volatile.

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