A-SHARES: Physical fitness

ShanghaiETFs targeting A-shares bring investors closer to China’s economic story, a story that was not so compelling this summer. Nick Fitzpatrick looks at asset levels in some of Europe’s main physical China ETFs. The bigger they come, the harder they fall. Well, fortunately for iShares, the world’s biggest ETF provider, its China A-shares ETF listed in London had not managed to become all that big before the June crash in Chinese equities. It was only in April that iShares launched its first ETF in Europe that invests directly in China’s A-shares (those listed on mainland Shenzen and Shanghai stock markets). Just two months later, Chinese stocks fell steeply. During those months, the ETF – called the iShares MSCI China A Ucits ETF – amassed assets under management (AUM) of $71.38 million. On June 12, Chinese stocks started tumbling, but assets in the iShares ETF did not start to fall in earnest until June 14. By October 23, and after some inflows returning, the AUM of the ETF stood at $23.78 million (€21.5 million), according to Funds Europe analsis of data from Markit’s ETP Analytics. Deutsche Bank – through a venture between its ETF arm, db x-trackers, and Harvest Global Investments, a Chinese asset manager – has an older product that rivals the iShares fund and, like it, is also physically replicated. It’s the largest A-shares fund in Europe and started the year with assets under management totalling $902 million. Through to October 23, that figure was slashed to $259.81 million. Outflows from the CSOP Source A-shares ETF have been steep also – but out of all of the physically replicated China A-share ETFs in Europe, it has had the most time to gather assets. Launched in January 2014, it was the first physically replicated ETF in Europe to offer access to China’s A-shares market. The CSOP Source FTSE China A50 Ucits ETF is a joint venture between CSOP Asset Management, a Hong Kong-based firm, and Source ETF in London. Its year-to-date outflow at October 23 was $536.72 million. Yet much of this was before the June sell-off. Chris Mellor, Source’s head of equity product management, puts this early and sizeable dip in assets under management down to profit-taking. “We saw significant inflows right from the launch at the beginning of 2014, with some big inflows in the middle of 2014. Then, in the first quarter of this year, we started seeing outflows gather pace. I think that reflects the fact that investors who had bought at the start of 2014 found themselves around 60% up, so effectively what we were seeing was profit-taking.” Though the Source ETF saw much of its outflows before the June crash, Mellor acknowledges that China ETFs will be subject to the ups and downs that drive popular investment themes. “If you think of China as thematic, when China is in favour, it will be invested in; when it’s not, there will be outflows.” INTENSE RIVALRY
A-shares have been a landmark development for European ETFs, particularly in London, which is expected to become a major venue for offshore renminbi deposits and trading. A-shares were for a long time limited to Chinese investors, but the likes of Source and iShares have managed to access them through their own or their partners’ quotas under the Renminbi Qualified Foreign Institutional Investors (RQFII) programme. iShares uses the quota of its parent company, BlackRock. Source’s uses the quota of CSOP. Rivalry between physical A-share providers is so acute that db x-trackers cut the fee on its ETF to the same price as the iShares ETF (65 bps) when iShares launched its fund in April. “A-shares are giving you access to the core Chinese market, whereas H-shares are a sort of subset,” says Mellor. H-shares are shares in Chinese companies listed outside of the mainland, typically in Hong Kong. “Getting access to A-shares gives better access to the Chinese market and the Chinese economy. There is also a wider choice of investment options because not all of China’s companies will have H-shares listed in Hong Kong.” Physical replicators had a rocky ride this summer. Indeed, trading in some shares was suspended during the China rout. At this point, the choice of index became important.  The FTSE A50, which Source uses, saw only six out of its 50 constituents suspended ath the beginning of July, says Mellor, though two of those suspensions were due to corporate actions and happened before the June ructions. The CSI 300 saw about 80 suspensions. Shares were also suspended in the MSCI China index. In total, more than 1,400 shares were suspended. “Those indices have a broader number of stocks but they go down into the less large and stable companies,” says Mellor. Although it might be that the volatile nature of equities means investors are usually not accessing A-shares for the renminbi factor (they might prefer bonds or money markets for that) currency exposure is a positive long-term aspect. The renminbi is expected to rise as its role in international trade and finance increases. A-shares are traded in renminbi. But the renminbi has seen swings this year following market and policy moves and this has increased currency risk for ETF A-share investors. HEDGING COSTS
Currency-hedged ETFs, in general, are a development that investors like Lynn Hutchinson, passive research analyst at Charles Stanley, would like to see. She tells the Funds Europe ETF roundtable: “We would like to see more currency-hedged products, but I don’t think there is much call for this among providers because if people’s views change on currency, then products could see their AUM fall to a tiny amount.” Mellor says: “The cost of hedging depends on which currencies you’re trying to hedge. A currency-hedged MSCI Emerging Markets fund, for example, would have a pretty high cost because there would be a lot of currencies in there.” He explains that the underlying price of a hedge is related to the interest rate differential between the currencies of the two countries being hedged. Brazil, for example, has double-digit rates and the annual hedging cost would be relatively high.  Emerging market currencies in general have seen big declines this year. Availability of the renminbi is also an issue, though its intetnationalisation helps. Mellor says: “We are seeing the Chinese market open up in slow and steady steps, but it might not be easy to hedge that exposure at the moment.” ©2015 funds europe

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