What is the A-share
Investors who venture into the world of Chinese equities face an alphabet soup of seemingly random letters. There are A-shares, H-shares, S-chips and P-chips to name just a few (see Chart 1).
These letters represent various attempts to develop the equity market in a country where people traded the first shares as long ago as the 1860s. But something resembling a modern stock market, the Shenzhen Stock Exchange, didn’t start operations until December 1 19901 . Shenzhen beat Shanghai as the first exchange of the modern era by some three weeks2.
The Hong Kong Stock Exchange, a forerunner to the city’s current bourse, began operations in 1914 but developed under British colonial rule3. Investors view Hong Kong as a separate and distinct market.
Chart 1: Alphabet soup of Chinese equitiesSource: Aberdeen Standard Investments, 31 Dec 18
‘A’ is for…
The focus of this white paper is the approximately 3,420 A-shares listed in mainland China4 (see Chart 2). These are renminbi-denominated shares traded on the Shanghai and Shenzhen exchanges. They boast a combined market capitalisation of some US$5.6 trillion5 .
In 2017, the market capitalisation of listed domestic companies in China was only surpassed by that in the US, according to data compiled by the World Bank 6.
Chart 2: A-share universe
Number of listed companiesSource: Aberdeen Standard Investments, 31 Dec 18
However, the size of this market can be misleading. A big market tends to imply a level of maturity which, in the case of A-shares, isn’t there yet.
This is a market that is still finding its feet. Since the first companies listed in the early 1990s, it has operated in isolation, largely irrelevant to investors in the rest of the world. The obstacles to foreign investor participation were, until a few years ago, so daunting that most foreigners either stayed away or only paid lip service to the idea of investing in onshore Chinese equities.
Even today, foreign investors account for only 2 per cent of share ownership, or some 5 per cent of the free float7 (see Chart 3). This is despite the authorities and some of the more forward-looking A-share companies saying they would like to see more foreign participation.
Chart 3: Share ownership as % of free floatSource: wind, csrc, circ, nssf, ubS-s. as of jun 2016
Retail is not dead
On the other hand, local retail investors account for more than one-third of the free float and some 86 per cent of transactions8 (see Chart 4).
Retail investors in China, like their counterparts elsewhere, tend to be on the lookout for quick capital gains. They possess few investment convictions other than chasing the latest ‘hot’ tip.
This helps explain the popularity in recent years of smaller high-growth companies. This is also why most Chinese companies do not see paying dividends as a priority (A-shares are low-yielding and dividend cuts are common).
This also means that A-shares are prone to frequent bouts of high volatility driven by investor speculation and sustained by momentum trading.
Analyst coverage of the market can be patchy. This may be a good thing for investors who do their own research, but it does nothing to improve transparency and investor education.
Chart 4: Retail vs institutional trading volumesSource: CEIC, UBS-S. As OF MAY 2018
A tale of two cities
The Shenzhen Stock Exchange was the first modern bourse in China. But Shanghai, the northern exchange chosen by policymakers in the 1990s to host the country’s restructured state-owned enterprises, overshadowed it for much of its history. Even today, investors can find the massive state-owned banks, the energy giants and the national utilities listed in Shanghai.
Shenzhen didn’t come into its own until big private sector companies, a more recent phenomenon, started listing there. This is a reflection of the growing importance of the service sector in China. The bourse hosts many of the country’s new economy companies, especially those firms that benefit most from the expansion of domestic consumption. ChiNext, China’s Nasdaq, is a second board of the Shenzhen Stock Exchange.
The southern city of Shenzhen, just across the border from Hong Kong, is known as China’s Silicon Valley (dubbed Silicon Delta). It has become a magnet for money and talent, not just from China, but from the rest of the world. The city is home to the likes of internet giant Tencent, as well as countless technology start-ups all hungry to be the next Tencent.
What is unusual in China’s equity market is the interventionist role played by the so-called ‘National Team’. This is a group of government-controlled firms tasked with stabilising the market by buying shares during big sell-offs.
Deployment of the ‘National Team’ is not an official policy, but an open secret. Its existence serves as a reminder that, while policymakers have embraced some market reforms, the not-so-invisible hand of the state still plays a role in determining asset prices.
The degree of government control may come as a surprise to investors used to the lighter regulatory touch of western markets. However, it reflects the state capitalism model which has been behind China’s economic success so far.
Market development is often a tug-of-war between the need for reform and the instinct of regulators to retain control. That’s why progress on reforms can sometimes be a case of two steps forward, one step back. This is especially true during times of market stress.