Asia ETF Roundup (Industry) – December 2020 and January 2021

Hang Seng Index Consultation on Methodology Enhancement

On December 2020, Hang Seng Index (HSI) launched a consultation to gather market feedback on several proposals to enhance the Hang Seng Index. There are five proposals aiming to expand industrial representation, enlarge market coverage, include sizable new listings promptly, maintain Hong Kong companies’ representation and to enrich the distribution of constituents’ weightings. The consultation was closed on 24 January 2021 and Hang Seng has not shared a date regarding the announcement of the results of the consultation.

Here is a summary of the proposals in the consultation paper:

(1)  Select constituents by industry group (e.g. consolidate the 12 industries into 6 groups); and based on a target coverage for each industry group (i.e. in terms of market capitalization, turnover etc.).

(2)  Increase the number of constituents to between 65 and 80.

(3)  Remove the minimum listing history requirement for eligible candidates.

(4)  Maintain a certain number of constituents classified as Hong Kong Companies (around 25 under the current methodology) to sustain the level of representation of Hong Kong portion in the index

(5)  Lower the weighting cap of individual constituents from 10% to 8%; and align the weighting cap of WVR and/or secondary listed constituents with that of other HSI constituents, i.e. 8%.

Currently, the number of constituents is capped at 52. Constituents of the HSI are selected based on company size and the prospective constituents usually have at least 2 years of listing history. Stocks are weighted by free-float market capitalization with a cap of 10% on individual constituents. Secondary-listed/ WVR constituents are subject to a 5% weighting cap. The full consultation paper can be viewed here.

CSRC, SSE, SZSE Issues Guidelines on Index Funds

On 18 January 2021, the China Securities Regulatory Commission (CSRC) issued a set of guidelines on index funds with the aim to regulate the establishment and operations of index funds and to protect fund investors’ interests. The guidelines set out the general requirements for the manager, the benchmark index and some operational aspects of index funds, ETFs and feeder funds of ETFs. The guidelines are effective from 1 February 2021.

On 22 January, in light of CSRC’s guidelines, the Shanghai Stock Exchange and Shenzhen Stock Exchange issued a set of new guidelines on index fund development, effective from 1 February. The guidelines can be viewed here and here.

Included in the SSE and SZSE guidelines, there are four requirements on index funds tracking non-broad-based equity indices:

(1)  The number of index constituents cannot be lower than 30

(2)  The weighting of a single index constituent cannot be larger than 15% and the aggregate weighting of the top 5 constituents cannot be larger than 60%

(3)  The indexes underpinning these funds should have more than six months of live performance history

(4)  90% of the constituents should be within the top 80% of the average daily turnover on their respective listing exchanges

The indexes underlying bond index funds (except for government bond index funds) are required to follow the first three requirements for non-broad-based equity indices.

Updates on the U.S. Executive Order – More Clarity, More Action

Executive Order Updates

• On 3 December 2020, the US Department of Defense added 4 more companies to the list of Communist Chinese military companies: CCTC, CIECC, CNOOC, SMIC. This increased the total number of companies affected by the executive order to 35 from 31.
• On 28 December, OFAC published a list of FAQs related to the executive order and a list containing the names of entities identified in or pursuant to the executive order as Communist Chinese military companies.
• On 6 January 2021, OFAC published three more FAQs (863-865). FAQ 864 stated the 3 NYSE-listed ADRs and subsidiaries of the military companies were subject to the executive order.
• On 14 January, the US Department of Defense added 9 more companies to the list of Communist Chinese military companies, including Xiaomi Corporation. This increased the total number of companies affected by the executive order to 44 from 35. Meanwhile, OFAC published four new FAQs (871-874).
• On 27 January, OFAC issued General License 1A (GL 1A) and two more related FAQs (878-879). GL 1A authorizes transactions in securities whose names closely match the entities covered by U.S. Executive Order 13959 but that have not been listed on the OFAC's Non-SDN List through 9.30am Eastern Time, 27 May 2021.

Market Participant Updates

Index Provider Updates

• FTSE Russell, MSCI and S&P Dow Jones announced consultation results and removed the first batch of sanctioned Chinese companies from their benchmarks from 22 December 2020 to 5 January 2021.
• International index providers announced they would remove the three telecommunication companies, including China Mobile (00941, CHL), China Telecom (00728, CHA) and China Unicom (00762, CHU) from their indexes, subsequent to the OFAC’s FAQ on 6 January.
• FTSE Russell, MSCI and S&P Dow Jones announced they would remove CNOOC (00883, CEO) from their indices before the effective date on CNOOC’s restriction.
• Prior to the OFAC’s issuance of GL 1A, MSCI and S&P Dow Jones announced they would remove companies with names closely matched the entities covered by U.S. Executive Order 13959 but that have not been listed on the OFAC's Non-SDN List.
• After OFAC’s issuance of GL 1A, FTSE Russell, MSCI and S&P Dow Jones decided not to proceed with the deletion of the securities with names closely matching the entities covered by the Executive Order.
• Hong Kong and China-based index providers have not made any announcement.

Weights of Deleted Constituents in MSCI Equity Indexes

Stock Exchange Updates

• The New York Stock Exchange (NYSE) confirmed on 6 January 2021 that it will delist the three Chinese telecommunication giants, including China Mobile (00941, CHL), China Telecom (00728, CHA) and China Unicom (00762, CHU), from their exchange in response to the executive order.

Asset Manager Updates - ETFs and Index Funds

• State Street Global Advisors (SSGA), manager of the Tracker Fund of Hong Kong (TraHK, 02800, listed in Hong Kong) and BlackRock/iShares, manager of the iShares Core CSI 300 ETF (02846/82846/09846; listed in Hong Kong) and the iShares Core Hang Seng Index ETF (03115/83115/09115; listed in Hong Kong), announced before the effective date of the Executive Order that they would stop adding new investments in the sanctioned securities to the above ETFs.
• SSGA, manager of TraHK, reversed its decision three days later and announced that it would resume buying the sanctioned securities for TraHK from 14 January.
• DWS, manager of Xtrackers ETFs, published a statement that the Xtrackers UCITS ETFs are not U.S. Persons subject to the Executive Order. For ETFs tracking an index that excludes the sanctioned securities, DWS will seek to implement the changes. For physical replication ETFs tracking an index that has not excluded the sanctioned securities (e.g. CSI 300), DWS will not purchase the sanctioned securities on or after 11 January 2021. For synthetic replication ETFs tracking an index that has not excluded the sanctioned securities (e.g. CSI 300), the ETF will remain exposed to the sanctioned securities through derivative exposure to the index.

Morningstar Research Articles

• Recent U.S. Executive Order Affecting Certain Chinese Securities Confounds Investors, dated 1 December 2020
• Assessing the Impact of the U.S. Executive Order on Passive Funds, dated on 6 January 2021
• Ripples From U.S. Executive Order Reach Offshore Passive Funds, dated on 11 January 2021
• TraHK U-Turns on U.S. Executive Order Backwash: Impact Analysis, dated on 20 January 2021

Chinese Equity ETF Watch – Hong Kong-Domiciled Offshore Chinese Equity ETFs See Estimated Net Outflows of USD 0.4 billion in January

• In 2020, Hong Kong-domiciled ETFs within the China Equity Morningstar Category saw estimated net outflows of USD 0.3 billion from ETFs. We estimate net outflows of USD 2.6 billion from the China Equity - A-Shares Category.
• By way of comparison, looking at the U.S. ETF market in 2020, the two largest ETFs by assets under management offering broad Chinese offshore equity exposure—iShares China Large-Cap ETF (FXI) and iShares MSCI China ETF (MCHI)—experienced net outflows amounting to around USD 0.2 billion. The largest ETF by AUM with broad Chinese onshore equity exposure, Xtrackers Harvest CSI 300 China A ETF (ASHR), experienced net outflows of around USD 70 million. Meanwhile, the KraneShares CSI China Internet ETF (KWEB) gathered net inflows of USD 0.6 billion.
• Hong Kong-domiciled ETFs in the China Equity Category saw net outflows, estimated at USD 0.4 billion in January. Net outflows came mainly from the Hang Seng China Enterprises Index ETF (02828/82828), and netted off somewhat by the net inflows from the Global X China Electric Vehicle ETF (02845/09845), estimated at USD 0.3 billion.
• Hong Kong-domiciled ETFs in the China Equity - A-Shares Category saw estimated net inflows of USD 0.1 billion in January, coming mainly from the ChinaAMC CSI 300 Index ETF (83188/03188).
• In the U.S. in January, flow direction was similar to that in Hong Kong. We estimated net outflows of USD 0.3 billion from the iShares China Large-Cap ETF (FXI) and the iShares MSCI China ETF (MCHI). We estimated net inflows of USD 0.1 billion from the Xtrackers Harvest CSI 300 China A ETF (ASHR).

New Launches and Listings

China: 17 ETF New Listings

• Chinese ETF providers listed 17 new ETFs on the Shanghai Stock Exchange and Shenzhen Stock Exchange. There are 14 thematic ETFs providing exposure on food and beverage, intelligent vehicles, medical industry, 1 sector ETF and 2 broad market ETFs.
• These listings put the total number of ETFs listed in China at 384 (114 ETFs on the SZSE, 270 ETFs on the SSE).

Hong Kong: 5 New ETF Listings

• CICC listed an actively-managed money market ETF on the Hong Kong Stock Exchange. The ETF invests in short-term deposits and high-quality money market instruments.
• CSOP listed two pairs of leveraged (2X) and inverse (-1X) ETFs tracking the performance of the Hang Seng TECH Index and the FTSE China A50 Index, respectively.
• These listings put the total number of ETFs listed in Hong Kong at 227 (143 ETFs and 84 multiple counters, including 26 leveraged/inverse products).

Singapore: 1 ETF New Listing

• Lion Global listed an ETF tracking the Hang Seng TECH Index on the Singapore Exchange.
• These listings put the total number of ETFs listed in Singapore at 43 (30 ETFs and 13 multiple counters).

South Korea: 11 ETF New Listings

• Korean ETF providers listed 6 thematic ETF, a broad market ETF tracking MSCI Emerging Markets index and 4 broad market ETF tracking Hang Seng TECH index on the Korea Exchange. The thematic ETFs provide exposure to Chinese biotech, global cloud computing and innovation stocks.
• These listings put the total number of ETFs listed in South Korea at 469.

Taiwan: 1 New Listing

• Taiwan ETF providers listed a thematic ETF on 5G communication on the Taiwan Stock Exchange.
• These listings put the total number of ETFs listed in Taiwan at 216, of which 98 are bond ETFs.

ETFs Launched in December 2020 and January 2021 in the Asia ex-Japan Region