This article was written by Richard Mazzochi and Minny Siu.
What is the FSDC report about?
The Financial Services Development Council ("FSDC") has set up a dedicated working group ("FSDC Working Group") comprising leading industry experts to formulate policy recommendations on further developing the A-Share market and Stock Connect and just released a report entitled "One Step Forward: Expanding Access to the A-Share Market" on 23 September 2020. In this report, the FSDC Working Group invites the Hong Kong* Government and regulators, in coordination with Mainland regulators, to consider:
- a gradual introduction of Hong Kong listed structured products over Stock Connect A-Share or A-Share based indices; and
- a gradual expansion of Southbound Stock Connect, to include Hong Kong listed structured products linked to a selected list of eligible stocks traded, then widen the scope of eligible Mainland investors.
King & Wood Mallesons, represented by Richard Mazzochi and Minny Siu, partners of KWM's Banking and Finance department in Hong Kong, participated in the FSDC Working Group on its report.
Richard Mazzochi said: "We are honoured to be given another opportunity to work with the FSDC Working Group on this important initiative led by the FSDC. We expect the recommendations will provide significant opportunities to market participants and investors in the Mainland and in Hong Kong."
Minny Siu said: "Leveraging off the Stock Connect platform and Hong Kong's highly regulated and liquid structured products market, the FSDC's recommendations will further enhance the competitiveness and product diversity of Hong Kong as an international financial hub, and its continued status as the leading offshore RMB centre."
Why focus on the China's A-Share market?
The China's A-Share market is the second-largest public equity market in the world and has the largest pool of publicly traded stock by market capitalisation in Asia[1].
Notwithstanding the Mainland's equity market size, there is currently a limited variety of listed derivative trading instruments linked to A-Share underlying accessible by retail investors.
What does the FSDC report recommend?
The FSDC report recommends expanding structured products traded on the Stock Exchange of Hong Kong ("HKEX") in two phases:
Phase 1: A gradual introduction of Hong Kong listed structured products linked to A-Shares traded under Stock Connect or A-Share based indices
The FSDC Working Group suggests the following approach to implement phase 1:
- start with one type of Hong Kong listed structured product (e.g. warrants only) that is simple and easily understood by investors; or
- start with a shortlist of the most liquid Stock Connect A-Share as the underlying assets.
Phase 2: Expand scope of eligible securities for Southbound Stock Connect to include Hong Kong listed structured products linked to a selected list of eligible underlying assets
When the market has accumulated sufficient experience and understanding of Hong Kong listed structured products from phase 1, and Mainland regulators have confidence in allowing Mainland investors to participate, the next step is to gradually expand the scope of eligible securities for Southbound Stock Connect to include Hong Kong listed structured products linked to a selected list of eligible underlying assets. The regulators may then consider gradually widening the scope of eligible Mainland investors to invest in such products.
What are the benefits of the FSDC recommendations?
The FSDC Working Group anticipates that the proposals will benefit the Mainland and Hong Kong in the following areas:
- facilitate further opening up of the Mainland China's financial markets and enable Mainland regulators to gradually expand the listed A-Share equity derivatives market in a safe, stable and risk-controlled environment – this allows Mainland regulators to accumulate experience and gradually expand access to the A-Share market on a controlled basis;
- the FSDC Working Group's proposals, together with extensive investor education that the HKEX and market participants of Hong Kong listed structured products already engage in, will enhance Mainland investors' understanding and knowledge which may support the further development and growth of the Mainland's derivatives market;
- provide the Mainland investors with a wide range of structured products traded on the HKEX, which is a highly competitive market with well-regulated issuers that offer competitive pricing and ample liquidity – readers may refer to the FSDC's report on "Optimising Hong Kong's Listed Structured Products Market" published in 2017, a copy of the report can be found at the FSDC's website and our KWM alert can be found at https://www.kwm.com/en/hk/knowledge/insights/the-fsdc-recent-report-on-optimising-hks-listed-structured-products-market-20170419;
- increase the Stock Connect trading and usage – it is anticipated that the proposals will increase:
- trading volume of Northbound trading of Stock Connect and drive additional inflows into the A-Share market through structured product issuers' hedging activities in their A-Share positions; and
- Southbound Stock Connect trading by encouraging Mainland investors to invest in A-Share listed structured products through Stock Connect; and
- support the strategic direction of the Hong Kong Government and regulators to enhance the competitiveness and product diversity of structured products in Hong Kong.
KWM welcomes the efforts made by the FSDC to promote expansion of access to the A-Share market. We look forward to working with market participants on these product initiatives.
The full report can be downloaded at the FSDC website (www.fsdc.org.hk).
[1] This is based on market data as of March 2020.
*Any reference to "Hong Kong" or "Hong Kong SAR" shall be construed as a reference to "Hong Kong Special Administrative Region of the People's Republic of China".
