A share market after MSCI inclusion

Mar. 2018

Li Chen +86 10 66538641 | [email protected] Mar 2018

1 1: A-share Inclusion in MSCI indexes • MSCI will include 231 large cap A shares in the MSCI Emerging Markets Index using a two- step inclusion process beginning June 2018. • An Index Inclusion Factor (IIF) of 2.5% and 5% will be applied to the FIF-adjusted market capitalisation of China A shares in the pro-forma MSCI China Index in June and August, respectively.

Current Aug 2018 (Inclusion factor=5%)

Weight # of Securities Weight # of securities

MSCI China 152 383

A shares - 0 2.61% 231

MSCI EM 846 1,077

A shares - 0 0.82% 231

MSCI Asia ex-Japan 646 877 A shares - 0 0.96% 231

Source: Wind, data as of 07-Feb-2018 2 2.1: Fund inflow into the A-share market • We estimate $14.8 bn fund flow into the A-share market by August inclusion • The most heavily weighted stocks in the provisional index—Moutai, Ping An, China Merchant Bank, , ICBC, etc.—will receive the largest fund flows

Table: Top 20 stocks receiving the largest fund flows

Fund flow into the stock 6M average daily Days to Security Ticker Security Name Index weight (bn RMB) turnover (bn RMB) trade

600519 CH Equity A 0.04% 5.38 3.04 1.8

601318 CH Equity PING AN INS A 0.03% 4.84 6.36 0.8

600036 CH Equity CHINA MERCH BK 0.03% 4.19 1.78 2.4

601166 CH Equity INDUSTRIAL BANK A 0.02% 2.48 2.13 1.2

601398 CH Equity ICBC A 0.02% 2.41 1.62 1.5

600000 CH Equity PUDONG 0.02% 2.37 0.78 3.0

000333 CH Equity CO A 0.01% 2.16 1.73 1.2

002415 CH Equity HIKVIS A 0.01% 2.10 1.36 1.6

000002 CH Equity CHINA CO A 0.01% 2.01 1.59 1.3

601668 CH Equity CHINA STATE CON A 0.01% 1.87 2.29 0.8

601328 CH Equity BANK OF COMMU A 0.01% 1.76 0.90 2.0

601766 CH Equity CRRC CORP A 0.01% 1.73 1.42 1.2

000858 CH Equity YIBIN A 0.01% 1.69 2.15 0.8

601601 CH Equity CHINA PACIFIC A 0.01% 1.68 1.06 1.6

600016 CH Equity CHINA MINSHENG A 0.01% 1.67 0.93 1.8

600104 CH Equity SAIC MOTOR CORP A 0.01% 1.66 0.86 1.9

601288 CH Equity AGRI BANK OF CN A 0.01% 1.64 1.45 1.1

600900 CH Equity CHINA 0.01% 1.49 0.36 4.1

601988 CH Equity A 0.01% 1.41 0.92 1.5

000001 CH Equity CO A 0.01% 1.39 1.84 0.8 Source: Wind, data as of 07-Feb-2018 3 2.2: Some stocks could benefit in the short term • The stocks with a higher ratio of potential fund flow to average daily turnover may be short- term beneficiaries, especially those stocks in which foreign investors hold very small number of positions.

Table: Top 20 stocks with the highest fund flow/daily turnover Fund flow into the 6M average daily Security Ticker Security Name Index weight Days to trade stock (bn RMB) turnover (bn RMB) 000046 CH Equity OCEANWIDE HLDGS 0.00% 0.21 0.03 8.1 603288 CH Equity FOSHAN HAITIAN 0.00% 0.73 0.14 5.3 600900 CH Equity CHINA YANGTZE 0.01% 1.49 0.36 4.1 000166 CH Equity SHENWAN HONGY 0.00% 0.61 0.19 3.3 600027 CH Equity HUADIAN POWER 0.00% 0.19 0.06 3.2 000027 CH Equity ENERGY 0.00% 0.12 0.04 3.1 600023 CH Equity ZHENENG 0.00% 0.34 0.11 3.1 600000 CH Equity SHANGHAI PUDONG 0.02% 2.37 0.78 3.0 002411 CH Equity BICON 0.00% 0.16 0.06 3.0 000883 CH Equity ENERGY 0.00% 0.13 0.04 2.9 600998 CH Equity JOINTOWN PHARMA 0.00% 0.19 0.07 2.8 601169 CH Equity BANK OF 0.01% 1.00 0.39 2.6 600642 CH Equity SHENERGY CO 0.00% 0.17 0.07 2.5 601390 CH Equity CHINA RAIL GRP 0.01% 1.02 0.41 2.5 600221 CH Equity HAINAN AIRLINES 0.00% 0.33 0.14 2.4 600663 CH Equity SHANGHAI LUJIAZ 0.00% 0.20 0.08 2.4 601985 CH Equity CHINA NATL NUCL 0.00% 0.61 0.25 2.4 600011 CH Equity HUANENG POWER 0.00% 0.19 0.08 2.4 600036 CH Equity CHINA MERCH BK 0.03% 4.19 1.78 2.4 600637 CH Equity ORIENTAL PEARL 0.00% 0.26 0.11 2.3

Source: Wind, data as of 07-Feb-2018 4 3.1: Overseas investments through QFII, RQFII and stock connect keep rising • Stock connect, QFIIs and RQFIIs are three channels for foreign investors to buy A-share stocks • Overseas investment in the A-share market was approximately Rmb448 bn as of 3Q 2017, constituting 1% of A-share’s floating market cap

1.1% 500

1.0% 450

0.9% 400 350 0.8% 300 0.7% 250 0.6% 200 0.5% 150 0.4% 100 0.3% 50 0.2% - Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 2013 2013 2013 2013 2014 2014 2014 2014 2015 2015 2015 2015 2016 2016 2016 2016 2017 2017 2017 Overseas Investment (bn RMB)

Overseas holdings % of A-share floating market cap

Source: Wind, data as of 07-Feb-2018 5 3.2: QFII and RQFII are open to licensed investors • QFIIs and RQFIIs are open to licensed investors, allowing investors to invest in all the A-share stocks and participate in IPO subscriptions Ranked by market cap Ranked by as % of total Ticker Name Ticker Name held by QFII (Rmb mn) free-float stocks 3Q17 Changes 2Q17 3Q17 Changes 2Q17 601169.SS BJ Bank 18,571.9 (452.3) 19,024.1 603233.SS Dashenlin 34.1 600519.SS Kweichow Moutai Co., Ltd 13,546.0 224.8 11,184.4 601009.SS Bank of 15.7 (0.2) 15.9

002142.SZ Bank of 10,891.0 644.5 10,246.4 002142.SZ 15.3 (0.0) 15.4

601009.SS Bank of Nanjing 10,028.7 (272.2) 10,300.9 601169.SS BJ Bank 13.6 (0.0) 13.6

000333.SZ Midea Group Co Ltd 8,235.2 352.6 7,882.6 002173.SZ Innovation Medic 8.4 1.5 6.9

000858.SZ Co., Ltd 4,654.3 (74.9) 3,888.2 002439.SZ Venustech 8.2 0.0 8.2 Hangzhou Digital 002415.SZ 3,556.8 (470.4) 4,027.3 603866.SS Toly Bread 7.6 2.1 5.5 Technology Co., Ltd. Appliances Inc of 000651.SZ 3,472.3 (165.0) 2,077.3 600533.SS Chixia Dev 7.3 1.6 3.3 Zhuhai Co. 600276.SS 2,692.5 1,018.6 1,673.9 002032.SZ Supor 7.1 0.1 7.0 Ltd Shanghai International Airport 600009.SS 2,592.3 19.9 2,136.4 000089.SZ Shenzhen Airport Co. 6.8 1.9 3.3 Co Jiangsu Yanghe Brewery Joint- 002304.SZ 2,493.1 194.0 1,180.6 300676.SZ BGI Genomics 6.6 stock Co., Ltd Shanghai International 600104.SS SAIC Motor Corp Ltd 2,168.3 67.6 2,100.7 600009.SS 6.2 (0.0) 5.2 Airport 600585.SS Conch Cement Co. Ltd. 1,905.1 234.0 1,671.0 002186.SZ QUANJUDE 6.2 (0.0) 0.3

601888.SS China Intl’ Travel Service 1,498.7 147.7 951.5 600779.SS SCSF 6.0 1.1 3.9

002032.SZ Supor 1,468.0 (104.0) 1,572.0 002831.SZ Yuto Packaging 5.9 Hangzhou Robam Appliances Co 002508.SZ 1,238.8 169.9 1,068.9 000796.SZ Hna-Caissa 5.4 Ltd 002008.SZ Han's Laser Technology Co., Ltd 1,219.7 81.0 313.1 300180.SZ Huafon Microfibr 5.3 1.6 3.7 Data as of 07-Feb-2018 600779.SS SCSF 1,218.6 553.6 468.4 000613.SZ Dadonghai 4.9 - 4.9

000089.SZ Shenzhen Airport Co. 1,208.7 290.8 634.4 300166.SZ BONC 4.6 0.2 2.2

600690.SS Qingdao Co., Ltd. 1,164.8 1.4 1,163.4 002120.SZ YUNDA Corp. 4.4 (0.0) 4.4

Source: Wind, data as of 07-Feb-2018 6 3.3: Stock connect, a more flexible channel • Compared with the traditional channels such as QFIIs and RQFIIs, stock connect is more flexible in that it allows all foreign investors to trade A-shares on a daily basis without a pre-approved quota. The capital mobility is higher through the Connect, because it sets no lock-in period or other restrictions, other than a daily quota limit. • Currently, the investment made through the Connect has reached Rmb315 bn cumulatively.

Table: Northbound investors' top 20 largest holdings Market Cap Held by Ticker Security Name As of floating market cap (%) northbound investors (bn RMB) 600519.SS Kweichow Moutai 50 5.6 002415.SZ Hikvision 38 10.7 000333.SZ Midea 35 9.8 601318.SS Ping An (A) 27 3.7 000651.SZ Gree 26 8.6 600276.SS Hengrui Medicine 25 13.0 600887.SS Yili 18 9.5 600900.SS Yangtze Power 18 9.5 600009.SS SHIA 16 32.0 600036.SS CMB (A) 10 1.6 600104.SS SAIC 10 2.6 601888.SS CITS 9 9.8 600690.SS QingDao Haier 9 7.7 000858.SZ Wuliangye 9 3.3 601901.SS FOUNDER SECURITI ORD A 8 14.6 002304.SZ Yanghe Brewery 8 4.0 600660.SS Fuyao Glass (A) 7 Data as of 07-Feb-13.02018 603288.SS Haitian Flavouring 7 4.8 000538.SZ YNBY 6 6.6 600066.SS Yutong Bus 6 14.2

Source: Wind, data as of 07-Feb-2018 7 4.1: It may 5-7 years for full inclusion of A-shares • According to the inclusion history of Taiwan and Korea, it takes several years from initial inclusion to full inclusion: six years for Taiwan and nine years for South Korea, respectively. • The timeline may be faster for A-share due to: (1) Capital market has made a progress of opening up; SAFE-approved QFII, RQFII quota keeps expanding at a steady pace

Obstacles need to be addressed before full-inclusion Changes or improvement progress (1) 20% monthly repatriation limit for QFIIs Unchanged. (i) The implementation of new trading suspension policies by local exchanges has brought the number of voluntary trading suspensions back to pre-crisis level. However, the number of trading suspensions in the China A-shares market remains by far the (2) Trading suspension treatment highest in the world. (ii) The CSRC has guided that suspension period for individual stocks should be less than 3 months. (3) Pre-approval requirements by the local exchanges MSCI is in discussions with China exchanges in an effort to reach a resolution on the removal of pre-approval requirements on new on launching financial products and pre-existing financial products linked to China A shares.

Table: SAFE-approved QFII quota Table: SAFE-approved RQFII quota

120 3.0 620 605 40.0 97 100 2.5 520 35.0 2.0 30.0 80 420 25.0 1.5 320 60 20.0 1.0 220 40 15.0 0.5 120 10.0 20 0.0 20 5.0 0 -0.5

-80 0.0

2013-01 2013-04 2013-07 2013-10 2014-01 2014-04 2014-07 2014-10 2015-01 2015-04 2015-07 2015-10 2016-01 2016-04 2016-07 2016-10 2017-01 2017-04 2017-07 2017-10

2011-12 2012-04 2012-08 2012-12 2013-04 2013-08 2013-12 2014-04 2014-08 2014-12 2015-04 2015-08 2015-12 2016-04 2016-08 2016-12 2017-04 2017-08 2017-12 MoM Chg (RHS, US $bn) QFII quota (US $bn) MoM Chg (RHS, US $bn) RQFII quota (US $bn)

Source: Wind, data as of 07-Feb-2018 8 4.2: Full inclusion in A-share might be faster than in Korea, Taiwan (2) RMB stabilisation enhanced investor interest in the A-share market

7.2

7

6.8

6.6

6.4

6.2

6

5.8 Jan-17 Feb-17 Mar-17 Apr-17 May-17 Jun-17 Jul-17 Aug-17 Sep-17 Oct-17 Nov-17 Dec-17 Jan-18 Feb-18

USD/CNY

Source: Wind, data as of 07-Feb-2018 9 4.3: Forecasted A-share inclusion timeline

Table: Taiwan, Korea inclusion timeline

Jan-92 Sep-96 Aug-98 Korea 20% 50% 100% Sep-96 May-00 Nov-00 Dec-01 Taiwan 50% 65% 80% 100%

Table: Estimated A-share inclusion timeline

2018 2019 2020 2022 2023 2024

China 5% 20% 30% 50% 80% 100%

Weight in EM index 0.8% 3.2% 4.8% 8.0% 12.8% 16.0%

Estimated fund flow (bn USD) 15 60 90 150 240 300

Source: Wind, data as of 07-Feb-2018 10 4.4: Larger fund flow into A-share expected after full inclusion Although MSCI inclusion may have a limited funds flow impact initially, after using

a 100% inclusion factor, the weight of A-share stocks in the MSCI EM index will

become 16%, which implies US$300 bn funds inflow to A-shares.

Figure: Approximate weight in each index after future full inclusion

Source: Wind, data as of 07-Feb-2018 11 5: Sectors in A-share with lower valuation, higher ROE, and more large-cap quality stocks

• There are more quality companies of over 5bn market cap in consumers, TMT and healthcare in the A-share

market than market. • In the longer term, as the A-share market becomes more open and investible, international investors' allocation will keep growing. Active investors may seek growth and performance in these sectors. • It has been proven that in these three sectors have been favourites of overseas investors (by way of QFII/RQFII and Connect) over the past years. Many of the quality stocks are very competitive compared with their global peers. Table: Sectors with higher ROE in A than H

Table: Sectors with lower P/E in A than H Sectors with higher ROE A share ROE H share ROE

Sectors with lower PE A share PE H share PE Non-ferrous metal 3.0 2.6 Restaurants & tourism 33 54 Steel 3.9 3.6 Household appliances 21 36 Basic chemical 9.3 -6.4 Textile & garments 25 28 Construction 4.4 4.3 Food & beverages 33 35 Agriculture & fishing 27 40 Power equipment 3.4 3.4 Banks 8 9 National defense 1.7 1.5 Information technology 43 58 Home appliance 8.6 5.3 Food & beverages 9.4 5.1 Banking 7.6 7.0 Transporation 4.7 4.3 Media 5.0 3.2

Source: Wind, data as of 07-Feb-2018 12 5.1 Crowded or not?

Table: Top ten companies held by northbound investors

Market cap held by As of floating A Share Security Ticker Security Name northbound investors (bn RMB) market cap (%)

600519.SS Kweichow Moutai Co., Ltd 56 5.9

002415.SZ Hangzhou Hikvision Digital Technology Co., Ltd. 43 10.9

000333.SZ Midea Group Co Ltd 38 9.8

600276.SS Jiangsu Hengrui Medicine Co. Ltd 33 13.6

601318.SS Ping An 32 3.9

000651.SS Gree Electric Appliances Inc of Zhuhai 27 8.3

600900.SS Co Ltd 19 9.9

600009.SS Shanghai International Airport Co 18 32.7

600887.SS Inner Mongolia Yili Industrial Group 17 9.0

600104.SS SAIC Motor Corp Ltd 11 2.6

Source: Wind, data as of 20-Mar 2018 13 5.2 Crowded or not? Consumer

Table: China saving growth vs China income growth

40% 30% 20% 10% 0%

Big four banks personal savings growth YoY Residents' disposable income growth YoY

Table: Tier 3 cities housing prices vs consumer sectors’ revenue growth

25 8

20 6

15 4

10 2

5 0

0 -2

-5 -4

-10 -6 Department stores revenue growth YoY (% LHS) Tourism revenue growth YoY (% LHS)

Dairy revenue growth YoY (% LHS) Tier 3 cities housing price YoY (% RHS)

Source: Wind, data as of 20-Mar 2018 14 5.3 Crowded or not? Consumer

Table: No. of trains run during New Year

9000 7814 8000 7366 6801 7000 5907 6000 4912 5000 4000 3000 2000 1000 0 2014 2015 2016 2017 2018 No. of trains during New Year

Table: No. of passengers peak day (million person)

Year 2014 2015 2016 2017 2018 Date 7th day of CNY 6th day of CNY 7th day of CNY 7th day of CNY 17th day of CNY No. of passenger (mn) 8.4 9.5 10.3 11.0 12.8

Source: Wind, data as of 20-Mar 2018 15 5.4 Crowded or not? Healthcare

Table: Hengrui PE band

90 80

70

60

50

40

30

20

10

0

Hengrui TTM PE Hengrui TTM PE three years' average

Source: Wind, data as of 20-Mar 2018 16