Despite COVID-19, China’s financial markets are quietly opening up

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As the world considers the financial impact of the coronavirus pandemic, China is quietly getting on with opening up its financial services sector. 

On March 27th 2020, China granted approval for both Goldman Sachs and Morgan Stanley to take majority (51%) ownership stakes in their Chinese securities company subsidiaries. This is the latest evidence of China’s commitment to open up its domestic financial markets to foreign players. China’s plans for opening up are not new, but the dates imposed by the phase one US-China Trade agreement and the impetus to stimulate the Chinese domestic economy in the face of pandemic-related recession make the next few months ripe for progress. The impacts of COVID-19 also suggest loosening of capital outflows from China are unlikely - progress remains focused on foreign inflows.

While foreign firms were previously required to maintain a minority stake in a joint venture with a domestic Chinese partner, since the July 2019 “11 Measures” were announced by the State Council up, the ownership cap for foreign firms has been significantly relaxed in many financial subsectors and foreigners will be allowed to participate in for the first time in some areas.

Encouraging foreign institutional investment in China’s bond and equity markets is a priority for China. This has been evidenced by abolishing both the foreign and RMB denominated quotas for inward investment which was announced by China in September 2019.

An April 2020 watershed

The timeframe for significant milestones is approaching soon, with April 2020 designated under the US-China Phase 1 trade agreement as a deadline for opening up. The table below shows how both the 11 Measures and the US-China trade pact influence the timeline for foreign firms.

The Asset Management market was the first to announce opening up measures in late 2017 and as of April 2020, the first foreign firms will be allowed to operate after obtaining licenses. The Chinese market has strong appeal; it has a projected annual growth rate of 13% and is set to eclipse the UK as the 2nd largest global asset management hub, by AUM, by 2021. The effects of COVID-19 may accelerate this repositioning as mature markets like the UK take a significant hit to portfolio valuations. Meanwhile China’s savings rate (as a percentage of household income) is upward of 35% compared to the UK’s rate of approximately 2% or the USA’s rate of approximately 7%. The opportunity is clear.

The long march to success

While this is a positive direction of travel, there remains a number of barriers to implementation for foreign players: licenses granted to take up these onshore opportunities may require additional approvals, quotas or regulatory green lights. Bureaucracy allows China to manage the speed of opening up and to maintain a degree of control over the financial systems to promote stability.

Moreover, foreign players have key decisions to make. They need to balance the opportunity for control with the continuing need for local partners to help with distribution, fund allocation and local knowledge. In addition, onshore operations entail adherence to a myriad of data localisation requirements and rules for sharing of software and technology with the Chinese government.

Foreign firms have to consider relationships, valuations, governance, IP protection and competition. The relaxation of rules is uncharted territory for both Chinese regulators and foreign financial institutions. It requires a sophisticated approach.

One-way ticket

“Opening up” is not synonymous with free-flowing capital across China’s borders. All of the 11 Measures are relaxing the flow of capital into China but does nothing to increase flows of capital out of China. While the quotas for inbound investment have been abolished and Bond Connect (established with Hong Kong in 2017) offers an additional route for foreign investors to access China’s Interbank Bond Market outbound quotas remain and an outbound Bond Connect is still nowhere in sight. The QDII (Qualified Domestic Institutional Investor) quota and its Renminbi-denominated sibling, RQDII give fund managers the ability to invest domestic funds internationally. They were last granted by China’s SAFE at the end of April 2019 to four securities businesses – none of which included foreign JVs. All that quota is long gone through allocation.

A 50x increase in data demand

As foreign players ready themselves, their strategy, their talent and their balance sheets for new opportunities in China, an integral part of their success will be access to global data to make decisions for themselves and their clients. As China opens up, the ability for investors to compare opportunities onshore to opportunities in other markets will be essential. The demand for Chinese data is increasing. American demand for Chinese government bond data has risen by over 50x between 2017 and 2020 and data from China’s Commodities Exchanges has seen a 2.5-fold increase in the same period. Futures data has seen an increase in demand by 48% and 64% from the UK and USA respectively.

The coronavirus is likely to add to this pivot in demand as China emerges ahead of the west from the peak of the pandemic.

China has committed to opening up its financial services sector through both announcements and actions. First the thorny US-China trade dispute and now the COVID-19 outbreak have not thwarted China’s planned changes and granting of licences and opportunities to foreign players. The fact that China has not taken up these opportunities to delay opening up should give markets comfort in their dedication to the 11 Measures and overall plans for liberalisation.

Foreign firms have been lobbying for decades for access to China’s $45tn onshore financial services market. China will be planning carefully how this opening up affects domestic competition, the demand for talent and – most importantly – the flows of capital across its borders. Now, arguably more than ever, China needs to attract capital to boost its economy. However, now that foreign firms finally have the invitation to enter the market, what will that market hold for them as the economic impacts of the Coronavirus play out?

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Sherry Madera, Chief Industry & Government Affairs Officer, Refinitiv