BlackRock estimates a 10-15% inclusion of A-shares on the MSCI indices will result in around $50bn in capital flows.
“That sounds large but against the backdrop of $240bn in daily turnover on the A-share market, $50bn is only a few hours of turnover,” Zhu said at the firm’s China briefing in Hong Kong.
However, as China’s weighting on the index goes up incrementally and underweight widens accordingly, fund managers will make up the A-share shortfall by allocating to Hong Kong, she said.
The Hong Kong market still only trades about $10bn per day versus $240bn per day for A-shares.
“If a small portion of capital, as part of index rebalancing, comes into to Hong Kong, the impact on the Hong Kong market will be much more substantial.
“A lot of focus has been on the A-share market opening up and the performance. More of our preference is on offshore-listed China equities. The H-share market is such a large laggard that we believe this is where the real value is.”
H-share preference
The firm maintains a positive view on China equities overall.
Zhu prefers H over A shares and within H-shares likes the mid-cap space, which has historically traded lower than large caps due to lower liquidity.
As for sectors, healthcare is “a tremendous organic growth opportunity for China”. In the old economy, she said the property sector fundamentals have meaningfully improved over last three months. She also likes smaller insurance firms and new energy stocks.
Zhu emphasized that structural reform and tangible improvement is more important to the markets than just the pace and quantity of economic growth.
“We think structural reforms are reducing the risk premium.”
Reforms are also the key risk. Investors are concerned that policy makers may not be able to stabilise the economy fast enough. GDP growth at a reasonable rate is important in order to carry out the reforms.
“The market wants structural improvements in the composition of the economy. People view a `soft-landing’ scenario as a prerequisite for structural reform progress.”
Global demand is another risk. China’s gross exports are still about 20% of GDP. If exports to the US and Europe plunge, structural reforms may have to be watered down or sacrificed, she said.
Market bubbling
Zhu reiterated the firm’s position that the mainland market as a whole is not a bubble. The A-share market itself is trading at about 20 times earnings. “Blue chips are trading at reasonable valuations versus their own history and international peers,” she said.
But the A-share market is retail investor-driven and some segments are bubbling. Small and medium size companies are trading at 90 times P/E and some are over 100 time P/E.
“Margin debt recently reached a record 8% of the market’s free float,” the firm said in its recent report on China.
“This is not a buy-and-hold market. It is about rapid sector and stock rotation…Sentiment rules, while valuation is an afterthought.”
