The Hang Seng China Enterprises Index (HSCEI), also known as the “H-Share Index”, is one of the best-known indices in Hong Kong. In addition to exchange-traded funds (ETFs), many other investment products are tied to this benchmark, including futures, options and listed derivatives, such as warrants. The constituents of the HSCEI have a total market capitalisation of HK$4 trillion as of end-March 2012, covering 91% of all H-Shares listed in Hong Kong, or 21% of all securities listed on the Stock Exchange of Hong Kong (SEHK).
As compared to the Hang Seng Index (HSI, with an aggregate market capitalisation of HK$12 trillion) we wrote about in the inaugural installment of our “Meet the Indices” series, the HSCEI only includes H-Shares, while the HSI's China component also includes Red-Chips (enterprises incorporated outside of the Mainland and controlled by Mainland Government entities) and other Hong Kong-listed Mainland companies. The HSI contains 67% of the constituents of the HSCEI index as measured by market capitalisation, being mostly Chinese banks and energy companies. Given this level of overlap, it comes as little surprise that the correlation between the HSCEI and HSI was 95% over the past 3 years.
ETFs Tracking the HSCEI
There are six ETFs that track the HSCEI, including the Hang Seng H Share Index ETF (02828, listed in Hong Kong, cross-listed in Taiwan), the Lyxor ETF China Enterprises (HSCEI) (ASI, listed in Singapore, France, Germany, Italy, Spain, UK and Switzerland), the Samsung KODEX HSCEI (A099140, listed in South Korea), the ComStage HSCEI (C023, listed in Germany and Switzerland), the Listed Index Fund China H-share (Hang Seng China Enterprises) (1548, listed in Japan) and XACT Hang Seng China (XACTKINA, listed in Sweden). Of these ETFs, the Lyxor and ComStage ETFs use synthetic replication to track the HSCEI, while the remainder use physical replication.
Index Construction
The HSCEI is a free float-adjusted market capitalisation weighted index with a 10% cap on each constituent. All H-Share companies that have their primary listing on the main board of the SEHK are eligible for inclusion in the index. H-Share companies are those companies that are incorporated in mainland China and which have approval from the China Securities Regulatory Commission (CSRC) to list in Hong Kong. The top 40 stocks ranked by combined market capitalisation (which is 50% of their full market capitalisation plus 50% of their free float-adjusted market capitalisation) will be selected as constituents. The index is reviewed and rebalanced on a quarterly basis.
The index is fairly top heavy with the 10 largest constituents accounting for almost 69% of the index’s total market capitalisation. The index has a large concentration in the finance sector, which represents 56% of its total value. Other major sector weights include energy (25%), property and construction (5%) and consumer goods (4%).
HSCEI Industry Weights.png)
Fundamental Performance Drivers of the Index
China has recently eased its tightening policy stance with the People’s Bank of China lowering the reserve requirement ratio (RRR) for banks in December 2011 and again in February 2012, providing additional liquidity to the market. This has generally been viewed as a positive sign, with the market reacting favourably after the announcement. In particular, the lowering of RRR means that Chinese banks will be able to offer more loans. In other developments, Premier Wen cited in April 2012 that the current bank monopoly must be broken up. Investors should be aware of the potential for future changes in Chinese banking regulation and the effects it could have on incumbents’ market share. Chinese banks account for 41% of the index portfolio.
Together with the insurance companies, the financials sector accounts for 56% of the index, the largest sector exposure. China Life Insurance (7%) and Ping An Insurance (6%), the largest Chinese insurance companies are also included in the index portfolio. The performance of shares of Chinese insurance companies is inherently linked to the domestic China A-Share market itself as insurance companies invest their surplus in local equity markets.
Individual constituents with weights over the 5% mark, include PetroChina (00857) (10%), China Construction Bank (00939) (10%), Bank of China (03988) (10%), Industrial and Commercial Bank of China (01398) (10%), China Life Insurance (02628) (7%), Sinopec (00386) (6%) and Ping An Insurance (02318) (6%).
The second largest sector exposure for this index is energy, accounting for 25% of the portfolio. This exposure consists of oil companies (17% - PetroChina (00857), Sinopec (00386) and China Oilfield (02883)) and coal companies (8% - China Shenhua (01088), Yanzhou Coal (01171) and China Coal (01898)). These energy companies are not only exposed to global energy prices but also to Chinese regulations in the energy sector and their overseas expansion strategies, if any.
While the stocks underlying this index are listed in Hong Kong and their share prices are quoted in Hong Kong dollars, the businesses derive the majority of their income in Mainland China. As a result, the underlying stocks are indirectly exposed to fluctuations in the Renminbi (RMB). The RMB has risen around 30% since it was de-pegged from the US dollar in 2005. The debate over further appreciation or a course-changing-depreciation of the RMB against the greenback in 2012 is on-going. Factors including, but not limited to, whether the US would label China as a currency manipulator and appreciation/depreciation of the US dollar against other global currencies could affect the value of the RMB. In April 2012, the People’s Bank of China widened the daily trading band of the RMB against the USD from 0.5% to 1.0%.
Jackie Choy is an ETF Strategist with Morningstar.
