London Stock Exchange Launches London-Shanghai Stock Connect Scheme

The financial regulatory body in the United Kingdom, Financial Conduct Authority (FCA), and the China Securities Regulatory Commission (CRSC) in a joint statement on Monday approved the launch of the London-Shanghai Stock Connect scheme, which went live today during a ceremony at the London Stock Exchange (LSE). The Stock Connect initiative, which was initially due to launch last year, will allow global investors to access shares in Chinese companies and Chinese investors a chance to buy LSE-listed stock and is aimed at encouraging cross-border investment between the UK and China. To support the success of the scheme through regulatory cooperation, both the exchanges also published a memorandum of understanding (MoU).

The scheme, which was first announced in 2015 and was intended to begin late last year with the December listing of Chinese brokerage Huatai, was launched on the sidelines of a visit by Chinese vice-premier Hu Chunhua to London, during meetings with UK chancellor Philip Hammond. The listing of Huatai was delayed at the last minute due to the uncertainty created by Brexit. The Alibaba Group Holding Ltd-backed group became the first company to trade via the London-Shanghai Stock Connect project after it made its London market debut on June 17. The company raised $1.54 billion through the flotation, representing about 10 per cent of its outstanding share capital. Through an arrangement between the LSE and the Shanghai Stock Exchange (SSE), the Stock Connect initiative will provide investors and firms mutual access to the capital markets in both countries and is seen as a significant step for Beijing in its efforts to internationalise its markets.

As part of the partnership, companies which are listed in the UK can apply for submission to apply for admission to the Main Board of the Shanghai Stock Exchange, and Shanghai-listed companies can apply to be admitted to trading on a newly formed Shanghai Segment of London Stock Exchange’s Main Market. The scheme is limited to trading in depository receipts rather than direct trade in company shares, but unresolved issues and administrative restrictions would render the London-Shanghai Stock Connect largely illiquid, at least initially.

The scheme, which was first proposed during a visit by Chinese President Xi Jinping to the United Kingdom in October 2015, will offer opportunities to foreign companies for the first time to list in mainland China and could open the floodgates for dozens of mainland Chinese firms to raise funds on the European bourse. The Chinese government is keen to expand investment opportunities around the world amid the trade war with the United States, which shows no sign of abating. As increasing capital outflows has put downward pressure on its currency in recent years, China has been pushing policies to attract more inflows into its equity markets. Beijing has been striving to liberalise the market over the past decade, but, because of the inconvertibility of the yuan, its stock market has long been off-limits to foreign companies and investors.

Andrew Bailey, chief executive of the Financial Conduct Authority, said that the new arrangement would offer advantages to both the countries and help in deepening and strengthening connectivity between the UK and China capital markets. He further added that the new cooperation would be an essential contributor to the success of the scheme and showed confidence in the positive contribution regulators of both the market could make in international capital markets. While Chinese investors will see exposure to foreign securities via the Shanghai Stock Exchange and in their own currency, the Stock Connect scheme will offer institutional investors based in the UK the exposure to China A-shares which previously required a qualified foreign investor status.

Philip Hammond, Chancellor of the Exchequer, praised the importance of the city as a global financial centre and described Stock Connect as a ground-breaking initiative. He also said that the initiative would deepen the global connectivity of the country as it looks outwards to new opportunities in Asia and the launch was a strong vote of confidence in the UK market. Zhou Yi, chairman of Huatai, said that the London-listing of the company would offer international investors exposure to China’s financial services market.

However, some market analysts have questioned the effectiveness of the scheme, with one person with knowledge of the project describing it as more of a symbolic move than a genuine opening of a new trading market. Mismatch in trading limits between both the bourses is one of the unresolved problems, as while London has no daily trading limit, Shanghai has a 10 per cent trading limit. According to the programme’s draft rules, Chinese companies having a minimum market capitalisation of Rmb20bn ($2.9bn) would be able to list under the scheme, and only some Chinese companies will be able to meet such a stringent criterion.

The Shanghai Stock Exchange already has an arrangement with the Hong Kong and Shenzhen Stock Exchanges since 2014, according to which investors in the former British colony are able to buy mainland China-listed shares worth Rmb52bn each day through local brokerages. Despite this, as the Shanghai exchange has suffered from concerns about the deepening US-China trade war, Chinese stock markets were the world’s worst performing last year and are still under pressure. Zhu Bin, a strategic analyst at Chinese brokerage Southwest Securities, said that investors are not very excited about the London connect as the Shanghai-Hong Kong stock connect, which now covers over 2,000 eligible equities in Shanghai, Shenzhen and Hong Kong, has not had an enormous impact on Shanghai’s market.

However, some market participants describe the new scheme with London as different than the stock links between Hong Kong, Shanghai and Shenzhen. While the new Shanghai-London trading initiative is more restricted in its scope, the current stock connections with Hong Kong give investors access to many stocks. Moreover, unless mainland Chinese retail investors have investment capital of at least 3 million yuan, they are not allowed to trade trading depository receipts (DR) floated by international companies in Shanghai. Also, the listing of DR shares by British firms will offer mainland investors new investment options to diversify their risks, as this will provide Chinese investors with a unique opportunity to gain exposure to international securities via an exchange located in their own country and currency. To enable foreign groups to access institutional investors in global financial centres like London, this investment structure is a tried and tested way, but the structure is new to the Chinese market.

Although the range of eligible market participants could be altered in view of the demands of the market and the operation of the Shanghai-London Stock Connect, in the initial stage, only qualified securities institutions in each of the two markets will be allowed to conduct cross-border conversion business. Both the exchanges also entered into the Memorandum of Understanding concerning Supervisory and Enforcement Cooperation, which was signed in Madrid at the International Organization of Securities Commissions last year. It sets out a framework for cooperation between the two regulators to support the success of the scheme by enhancing cross-border supervisory and enforcement cooperation and aims to help each regulator protect the legitimate interests and rights of investors and promote the healthy development of securities markets in both countries.