Shenzhen-Hong Kong Stock Connect goes live - and what’s next?

The eagerly-awaited Shenzhen-Hong Kong Stock Connect (Shenzhen-HK Connect), which allows investors access to the Shenzhen Stock Exchange from Hong Kong, and vice versa, was officially launched on 5 December 2016. Since the joint announcement on 16 August 2016 by the Securities and Futures Commission (SFC) and the China Securities Regulatory Commission (CSRC), fund houses have been preparing for the launch of the Shenzhen-HK Connect, including updating their offering documents to cater for investments in stocks listed on the Shenzhen Stock Exchange (SZSE).

As mentioned in our Client Alert, common disclosures in the offering documents for SFC authorised funds in relation to the Shenzhen-HK Connect include an introductory summary of the Shenzhen-HK Connect (i.e. the basic features and eligible securities), the quota system as well as the differences in trading days between Hong Kong and Mainland China.

In terms of the risks, in addition to the general risk factors (such as operational risks, restrictions on selling A Shares imposed by front-end monitoring, short swing profit rules in China, clearing and settlement risk and regulatory and taxation risks) which might have already been mentioned in offering documents for Shanghai-Hong Kong Stock Connect, it is worth noting that if, via the Shenzhen-HK Connect, an SFC-authorised fund intends to invest 30% or more of its net asset value in stocks listed on the ChiNext Board and/or the Small and Medium Enterprise Board of the SZSE, the SFC would expect such exposure and the associated risks to be highlighted in the Product Key Facts Statement. The risks associated with such investment include:

  • Higher fluctuation on stock prices
  • Over-valuation risk
  • Differences in regulations
  • Delisting risk

Fund houses should also consider enhancing the risk disclosures to cover investments in smaller market capitalisation companies, the high tech sector or start-up type companies listed on the SZSE.

Separately, the Ministry of Finance, the State Administration of Taxation and the CSRC jointly issued Caishui [2016] No. 127 which deals with the Mainland China taxation rules in relation to Shenzhen-HK Connect. Fund houses are advised to seek tax advice and reflect the relevant tax treatments in their offering documents.

While industry participants are in the midst of updating their offering documents to cater for Shenzhen-HK Connect, Hong Kong’s Financial Services Development Council (FSDC) released a report on 29 November 2016 entitled “Proposal on the Mainland-Hong Kong Bond Market Connect”, which recommends a mechanism to allow mutual market access for Mainland and Hong Kong retail investors to each other’s OTC and exchange-traded bond markets (Bond Connect).

The proposed operating model for Bond Connect comprises the opening of a special trading account with designated banks (i.e. a “Bond Connect” account), subject to a set of criteria for participation as set out by relevant regulators. For the exchange-traded bond market, the report suggests that mutual access should be implemented under the prototype of the Stock Connect scheme.

Industry participants may wish to keep an eye on the development of the Bond Connect proposals and to prepare a set of suitable disclosures once the details of the final programme become available.