New opportunities in China ADRs secondary listing
Over the past 15 years or so, Mainland China companies in the new economy sectors raised monies by seeking listings in overseas exchanges and gained access to international capital. Collectively, there are currently more than 200 American Depository Receipts (ADRs) of Chinese companies listed on US exchanges, due to relatively more favourable listing rules. For example, US exchanges allow weighted voting right shares (WVRs), which until 2018 were not allowed in Hong Kong.
Conducive listing rules in Hong Kong. In a move to attract more companies to seek listings, on 30 April 2018, the Stock Exchange of Hong Kong (388 HK) modified its rules to permit companies with WVRs to list, also known as dual-class stocks, where the shareholding structure has different classes of shares and voting rights. Xiaomi Corporation (1810 HK) was the first to list in July 2018 under this framework, followed by Meituan Dianping (3690 HK) in September 2018 and Alibaba Group Holding Limited (9988 HK) in November 2019. The change was designed to attract companies engaged in technology development and innovation to list in Hong Kong and add diversity to the exchange.
In May 2020, the Hang Seng Indexes Company Limited further modified its rules to allow WVRs and secondary-listed companies from the Greater China region to be included as Hang Seng Index (HSI) and Hang Seng China Enterprises Index (HSCEI) constituents starting from the August 2020 index review. Upon inclusion, each of these stocks will be capped at 5% weight in the index.
Recent developments may lead to some mainland ADRs currently listed in overseas bourses to seek secondary listings in Hong Kong, where their shares can be fungible between both exchanges. Based on the modified listing rules, should the trading volume in Hong Kong exceed 55% of the global turnover, Hong Kong will become their primary listing location.
Focus on the winning ADR themes. Since mid-2013, the 10 largest China ADRs among e-Commerce, innovation, and new economy companies have significantly outperformed overall China equities and general Internet peers (represented with KraneShares CSI ETF here). This is solid evidence for thematic investing in the DBS CIO Barbell Strategy which comprises e-Commerce and its massive ecosystems, and e-Sports platforms (Figure 1).
Figure 1: Large China ADRs outperformed the broader market (equal weighted, Aug 2013 = 100)
Source: Bloomberg, DBS
20 largest ADRs. As at the end of May 2020, the 20 largest Chinese ADRs recorded a combined market cap of USD1t with a three-month average daily turnover of USD8b (Table 1), a significant amount by any standard. Hypothetically, the potential secondary listing of Mainland China ADRs could boost the trading volume in the Stock Exchange of Hong Kong (388 HK), attract fund inflows, and increase market participation. Assuming the top 20 ADRs seek secondary listings back in Asia and their average daily turnover declines to half of that in the US, they could theoretically collectively contribute an additional USD4b a day; equivalent to a 30% increase to Hong Kong Exchange’s (388 HK) current three-month average daily turnover.
Table 1: 20 largest China ADRs by market capitalisation and average daily turnover in the US exchanges (USDb)
Source: Bloomberg, DBS
Sector diversity. At present, the financial sector accounts for half the weight in the Hang Seng Index while the Information Technology (IT) and Consumer Discretionary sectors have far lower weightings (Figure 2), compared with Asia ex-Japan equities where weights in the three largest sectors of Financials, IT, and Consumer Discretionary are more evenly distributed.
As a large proportion of Mainland China ADRs are in the Technology, e-Commerce, and Consumer Discretionary sectors, their potential listing in Hong Kong can add diversity to the index weightings and gradually align the sectors to reduce the gap. If in future, some of these companies are included in the HSI or HSCEI, it will be a natural way to rebalance the two indices to more even sector distributions. Such possible developments may offer investors a more diversified mix of companies to choose from, especially in the secular growth sectors in the CIO Barbell Strategy such as digitalisation, e-Commerce, new economy and their respective ecosystems.
Figure 2: Index sectors – Hang Seng Index vs Asia ex-Japan Index
Source: Bloomberg, DBS
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