Hong Kong’s arbitrage trade gets a boost from China

Bloomberg

Cheap Hong Kong equities are suddenly back in vogue with Chinese investors. As tightening capital controls turn the city’s stock market into one of the few Beijing-approved destinations for offshore investment, mainland traders are piling into shares that have long been priced at much lower levels than their counterparts in China. Average daily inflows through Hong Kong’s exchange links swelled to the highest since September this month, while the city’s Hang Seng China Enterprises Index is the best performer among major world equity gauges this week.
The influx of mainland money has helped narrow valuation gaps between the markets, which persisted for more than two years despite growing cross-border connectivity. Even so, dual-listed stocks remain about 33 percent cheaper on average in Hong Kong. Pictet Asset Management and East Capital say the city’s re-rating has further to go.
“We expect the trend to continue for a while longer as valuations in Hong Kong are attractive,” said Pauline Dan, the Hong Kong-based head of Greater China equities at Pictet Asset Management, which oversees about $462 billion worldwide.
Investors bought a net 11.4 billion yuan ($1.7 billion) of Hong Kong equities through the Shanghai and Shenzhen exchange links during the five trading days through Feb. 9, taking this year’s total inflows to 34.1 billion yuan. As a high-profile part of President Xi Jinping’s pledge to integrate China’s financial markets with the world, the links have been left out of a sweeping government campaign to clamp down on capital outflows and prop up the yuan.
While mainland investors using the stock connect program have to be repaid in yuan when they sell Hong Kong shares, they are shielded from any depreciation in the Chinese currency while their money is on the other side of the border. Inflows into the city have propelled the Hang Seng China index of so-called H shares to a 4.6 percent rally since Feb. 3, the second-best performance among 95 equity gauges tracked by Bloomberg after the Jamaica Stock Exchange Market Index.