Last week the Financial Times published an article entitled “Look for value trades in emerging markets” highlighting the apparent mispricing between Chinese A shares traded in mainland China, and H shares, quoted in Hong Kong.
The A share market is largely restricted to domestic investors, access is only granted to qualified foreign institutional investor’s, however there are ways to get around this and the market is opening up.
According to the FT, the CSI 300 index, which covers shares listed on China’s two domestic exchanges, Shanghai and Shenzhen trades at a P/E of less than 10 — the lowest level in more than a decade. Moreover, the Chinese market as a whole currently trades at a P/E of 6.7, while the Hong Kong market trades at a multiple of 12.8.
Wide discount of China A shares to H shares
The premium, or discount, of A shares to H shares, is measured by China’s Hang Seng China AH Premium Index. The index uses a simple 0 – 100 scale of measurement, if the index is less than 100, A shares are trading at a discount to H shares. If the index is equal to greater than 100, A shares are trading on par, or at a premium to H shares on average.
At time of writing, the Hang Seng China AH Premium Index sits at 91.15, 1.2% below the previous days close of 92.24. This figure indicates that A shares are currently trading at a 9.7% discount to H shares.
Oddly enough, despite the proposed opening up of domestic Chinese exchanges, as covered below, this index now sits near its five year low, implying that A shares now trade at the largest discount to H shares in five years. Indeed, for the majority of the past five years the Hang Seng China AH Premium Index has traded above 100. The index’s five year average is around 110.
Taking a stake in the A market is an attractive trade. While the shares are undervalued, they have catalysts ahead. It was announced in early April that Hong Kong’s stock exchange is in discussions with bourses in mainland China. The main focus of the discussions was the opening up of the A share market, allowing investors to trade shares on each other’s platforms. This would open up the Chinese to international investors.
Undoubtedly, the integration of the two trading systems, and opening up of China to the international capital markets would see the valuation gap between A and H shares close rapidly. To get ahead of the herd, investors need to position themselves.
A play on the market
This year, several new ETFs have hit the market specializing in the domestic Chinese A share market. In London, Deutsche Asset & Wealth Management, together with Harvest Global Investments launched the DB X-TRACKERS DBXT HARVEST CSI300 INDEX UCITS ETF (DR) (LON:ASHR) earlier this year, following a launch of the product in New York last November under the name db X-Trackers Harvest CSI 300 China A-Shares Fund (NYSEARCA:ASHR).
The Market Vectors China ETF (NYSEARCA:PEK), also provides direct physical access to Chinese A-shares through an agreement with China Asset Management (Hong Kong) Limited, a wholly owned subsidiary of China Asset Management Co., Ltd., China’s largest management company in terms of mutual fund assets under management.
PowerShares China A-Share Portfolio (NYSEARCA:CHNA) offers indirect access to the A-share market using derivatives.
Note: This article is a revised version. The original article stated that the Market Vectors China ETF tracked the market using derivatives, which was incorrect. As of January this year, the instrument has provided direct physical exposure to Chinese A-shares.