Forex laws to limit China B share rush

Chinese investors track share prices at the Shanghai stock exchange.

By Nic Hopkins
CNN.com Writer

HONG KONG, China -- Investors in China will soon begin trading hard currency B shares, but only under tight controls aimed at curbing illegal money trading.

State-owned media said Thursday a suite of foreign exchange controls -- designed to avert a stampede to buy illegal hard currency for B share trading -- would remain in place until June.

The announcement of the controls follows China's statement that Chinese investors would for the first time be allowed to trade hard currency China B shares, which were previously tradable only by international investors.

The China B share market, which is much smaller than the China A share market, will re-open on Monday after a week long suspension designed to allow for the China A and China B exchanges to prepare for a new wave of traders..

The foreign exchange controls state that until June 1, Chinese investors may only use foreign exchange savings deposited before February 19, the Shanghai Securities News quoted a joint statement by stock market and foreign exchange regulators as saying.

Forex controls to curb black market currency trade

"Foreign exchange controls are needed to curb illegal forex trade in the black market and maintain market order," it said.

"They're trying to reel in the illegal channels, otherwise that will create fund flows . . . that could be out of control," said Joseph Tang, head of China research at Sun Hung Kai Investment Services in Hong Kong.

The yuan on the black market, which spiked after the B share opening, was announced to as high as 8.70 from a normal level of around 8.50, had already begun retreating on Thursday.

The joint statement said investors could open trading accounts with brokerages from Monday. On Wednesday, Shanghai investors opened 1,125 B share accounts -- a three-year high.

Investors in cities from Beijing in the north to the southern boomtown of Shenzhen flocked to brokerages.

Companies listed on the China B market boast a total market value of little more than $8 billion, compared with the $600 billion value of the China A market, which is off limits to international investors.

Brace for a wave of new traders, say analysts

Analysts say the number of traders set to buy into the China B market could be enormous, with estimates that there is as much as $70 billion in hard currency held in private bank account in China.

China has two types of hard currency B shares -- one traded in U.S. dollars on the Shanghai stock exchange and the other in Hong Kong dollars on the southern Shenzhen bourse.

Other observers say the rush to trade China B shares could be muted, since some estimates say that up to 90 per cent of China B shares are already owned and traded by local Chinese investors.

"They may have exploited any number of loopholes to be holding hard currency, or they may have permission to hold hard currency and trading the shares legally," said Hong Kong-based Li Lian Ong, an economist with the Macquarie Bank.

Despite this, Ms Ong and other observers have welcomed the move on China's part of open up its share markets.

Concerns persists over market transparency

"There are still concerns about how transparent China's markets are, how easily it seems some people can manipulate them, but this is clearly a step in the right direction."

Analysts say they expect an influx of local cash will boost liquidity in the slow market, which had been shunned by the foreigners it was originally designed for. They expect share prices to jump as much as 20 to 30 percent when trading resumes.

The reform of the China B share market is seen as a move to prepare the domestic stock markets for broader foreign access after China joins the World Trade Organization, probably this year.

Most China B-listed companies also have A shares, and many A and B companies have shares listed on the Hong Kong stock exchange, known as H shares.

Shares on the H market have an average price-to-earnings ratio of 11.5 times, while B shares have an average P-E ratio of 21.8 times and A shares a ratio of 60.5 times.

Closed markets prevent arbitraging

While severe price discrepancies exist between the values of shares listed on each exchange, the closed nature of the markets prevents arbitraging that would bring parity to the various valuations.

Analysts say the next logical step would be a merger of the A and B markets, and some years down the track the opening up of the yuan to foreign exchange markets.

"We don't expect to see the yuan traded on the open markets for at least five to 10 years," says Ong. "That means the liquidity on the Chinese markets will be less like it is in Hong Kong than, say, Malaysia, where the ringgit is also a closed currency.

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