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Shanghai-London Stock Connect: breaking ground on cross-border issuance
Shanghai-London Stock Connect: breaking ground on cross-border issuance
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Shanghai-London Stock Connect: breaking ground on cross-border issuance

28/11/2019

With the first Chinese company already trading on the Shanghai-London Stock Connect scheme, brokers are keen to understand the benefits of this new east-meets-west mechanism connecting two major stock exchanges. Here we summarise the key points and insights from a BNP Paribas roundtable held in Shanghai in September 2019

Shanghai-London Stock Connect is the latest in a series of initiatives designed to act as a bridge between China’s financial markets and the rest of the world. As the name suggests, it creates a link between the Shanghai Stock Exchange (SSE) and the London Stock Exchange (LSE).

Launched in June 2019, the Shanghai-London Stock Connect creates a two-way mechanism, with westbound and eastbound business. For the very first time, foreign companies are able to list in Mainland China and directly access Chinese investors. Conversely, Chinese companies are able to raise funds overseas via London with instruments that are fungible with their domestic shares.

As noted by Brian Schwieger, Global Head of Equities, Secondary Markets, London Stock Exchange Group, the new scheme demonstrates the UK and LSE’s commitment to Asia, “Shanghai-London Stock Connect represents one of the most important ways in which we are seeking to engage and partner with investors in China and Asia,”

Cross-border issuance

One of the major differentiators for Shanghai-London Stock Connect is that companies listed on the two stock exchanges can issue, list and trade depositary receipts on the counterpart’s stock market in accordance with the corresponding laws and regulations. So for example, eligible companies listed on the SSE, can issue global depositary receipts (GDRs) and apply for their listing on the Main Market of the LSE. This was put into practice in June 2019, when integrated securities group Huatai Securities became the first Connect issuer with USD 1.69 billion of GDRs on the Shanghai Segment of the Main Market of the LSE. This landmark issue allows international investors to access securities fungible with Chinese A-Shares on an exchange outside of China. Since its listing, Huatai’s GDR has already proved itself to be a liquid security, exceeding USD 1 billion of turnover at the beginning of September, said Schwieger, adding that around 25% of trading came from Mainland Chinese and Hong Kong retail investors.

Working with brokers on a daily basis, Sabina Liu, Business Development Manager of Secondary Markets, London Stock Exchange noted: “London’s trading hours sit between those of Asia and the Americas. With over 330 member firms globally, 14 of which are from Greater China, and with many more accessing through third-party brokers, London provides a unique opportunity for traders to trade outside their domestic markets and manage risks.”

In addition to the funds raised, Huatai gains broader benefits from listing on one of the world’s most international exchanges.  LSE issuers operate in over 100 countries and the investor base is equally diverse thanks to its mix of local and global investors, along with institutional and retail money.

“If a company trades in a pool of liquidity where all of the investors are retail, they will typically go in the same direction at the same time,” said Schwieger. “But if you have a globally diverse range of investors that includes institutional funds as well as global retail, it will give you a more stable pool of liquidity to trade in.”

Some of the advantages of a London listing are less tangible but just as important. “Since June, Huatai has significantly raised its profile in the City of London. Its listing brought it global reach and recognition, and I think that is very important,” said Schwieger. 

With the first Chinese GDR already trading, the focus has shifted to see which company will be the first to list in the other direction by issuing China Depository Receipts (CDR) on the Shanghai Stock Exchange. The bourse is already talking to a number of companies that could be among the inaugural issuers, said Victor Ye, Senior Vice President, Global Business Development Department at Shanghai Stock Exchange. “The SSE has finished the majority of preparations in the business and technical system for the launch of CDR, and more than 10 members have applied to act as conversion brokers and market markers of CDRs.” he said.

Understanding the market structure

Although the depository receipt market is already well-established in the UK, “there are some nuances specific to the Shanghai- London Stock Connect model that we have to consider when building an end-to-end solution,” noted Gary O’Brien, Head of Custody Product for Asia-Pacific, BNP Paribas Securities Services.

These include the different lengths for settlement cycles in Shanghai and London, the different currencies in each market, as well as time zone differences between the two.

Chinese financial institutions looking to take part in the scheme are still considering the best structure to put in place. This could include setting up a brokerage entity in the UK to facilitate trading flow, or partnering with a local broker instead.

“Companies are changing their models and structures, and not just using the structure they already had in place,” said O’Brien. “A number of parties have either set up or are in the process of setting up entities within the UK market.”

He described the broker-to-custody model, which is a way that a securities company can interact through a broker in the UK. That broker will work with their local agent to facilitate settlement into an investor’s account. The advantage of this structure is that it reduces the operational overheads associated with set up, which a Chinese party might otherwise incur.

In addition to a relationship with a local brokerage, participants in Shanghai-London Stock Connect need to open an account with a custodian bank. The unique cross-border features of the Connect schemes can make the role of the custodian more important than in more standard market structures.

The different settlement times (T+0 in Shanghai and T+2 in London), for example, means that companies trading on Connect will want to review their hedging solutions and liquidity requirements. A custodian in the UK can help by offering securities lending services, said O’Brien, which is a service that Chinese brokerages might not be familiar with in their local market.

The future of Shanghai-London Stock Connect will depend on the active participation of all parties. The roundtable discussion showed that many Chinese brokers are reviewing their access solutions for the scheme, are keen to see it succeed, but are not going to be able to provide an end-to-end solution without partnering with key experts in cross-border solutions. Custodians for their part will have to develop the structures to ensure that the securities can be traded smoothly between investors in both China and the UK. “Ultimately an ecosystem of market participants will develop new capabilities and benefit from this connection between Shanghai and London in many years to come.” said Liu.

BNP Paribas Securities Services has been working closely with market infrastructures, as well as clients across London and several Asian locations, to support them in accessing Shanghai-London Stock Connect.

The bank offers a full range of custody, outsourcing, and middle office services to support those participating in the scheme. This latest development further enhances the global and local connectivity that BNP Paribas Securities Services provides to banks, brokers, institutional investors and issuers.

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