The flag (R) of the Hong Kong Exchanges and Clearing Limited (HKEX) is hoisted next to China's flag (C) in Hong Kong on August 16, 2016.
China's central government has approved plans to link trading between the Shenzhen stock exchange and the Hong Kong market, it said on August 16, paving the way for the long-awaited reform. / AFP PHOTO / Anthony WALLACEANTHONY WALLACE/AFP/Getty Images

So good, the Chinese did it twice. This week, regulators gave the go-ahead for Shenzhen-Hong Kong Stock Connect. The scheme, which mirrors one set up for Shanghai in late 2014, will allow overseas investors to buy A shares listed on China’s Shenzhen exchange. Both systems also permit mainland-based investors to buy shares listed in Hong Kong. After the announcement the indices remained flat, but the scheme is still significant.

Shenzhen Connect will add 880 stocks to the list of nearly 600 available in Shanghai, giving access to three-quarters of the mainland-listed universe. The quality is even more noteworthy. Shanghai’s exchange has a far higher presence of stodgy state-owned enterprises; less than one-third of the index consists of privately established companies. Three-quarters of Shenzhen’s index, by contrast, comprises non-SOEs. Many of these are in higher growth “new economy” sectors, such as healthcare and technology, giving overseas investors more ways to express their views on China’s economy.

Foreign investors will also become more familiar with China’s retail investors. Goldman Sachs notes that nearly two-thirds of the index by market capitalisation is owned by individuals, compared with one-third of Shanghai. The high retail participation shows in lofty valuations, as well as high turnover relative to the market’s size.

Market strategists believe that the broader access to China A shares granted by Shenzhen Connect makes their inclusion in MSCI regional indices more likely. Perhaps, but work still needs to be done. Foreign investor concerns about voluntary stock suspensions by Chinese companies, as well as the exchanges’ self-appointed right to veto index products that reference A shares — irrespective of where they are listed — are yet to be assuaged.

The likelihood is they will be. With the scrapping of limits on the amount of funds allowed to invest both ways, the scheme sends a more important message. China’s commitment to opening its markets even trumps concerns about a flood of money heading south.

Shanghai and Shenzhen stock exchanges

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