Shanghai-HK stock connect positive catalyst for both markets

The imminent launch of the Shanghai-Hong Kong stock connect program, which allows investors mutual market access, will serve as a positive catalyst for both the Shanghai and Hong Kong bourses.

The China Securities Regulatory Commission and the Hong Kong Securities and Futures Commission announced earlier this week that the program will be officially launched next Monday.

Investors will be allowed to trade eligible shares listed on either market through local securities firms or brokers. The project allows a maximum cross-border investment of 550 billion yuan (90 billion U.S. dollars) and a daily two-way quota of 23.5 billion yuan.

Previously, cross-border investment in the the mainland equity market is only allowed under a series of projects including qualified domestic institutional investor (QDII), qualified foreign institutional investor (QFII) and renminbi qualified foreign institutional investor (RQFII).

Xia Yang, head of UBS China Equities, said the program is a milestone in the evolution of China's financial sector and the opening of its capital markets.

It will provide a significant boost to international participation in China's equity market, providing international investors with access to the 3.9 trillion U.S. dollar A-share market, he said.

At the initial stage, mutual market access will be a positive catalyst to domestic A-share market as it provides foreign investors a convenient way to access local A-shares, especially those with low valuation and in unique sectors, Xia said.

To the H-share market, investors could also see the program as a positive thing as "the UBS Investment Research team believes that the market expectation has returned to a reasonable level", according to him.

UBS expects lukewarm trading turnover in the initial few weeks after the kickoff due to the current 0.7 percent A/H-share price discount and some logistic difficulties, which could lessen the concern that investors will replace many H-shares with cheaper A-shares.

Sun Yu, head of China Equity Strategy of HSBC, said the connect program is a big step toward great market convergence to create the world's second-largest stock market.

"We believe stock connect could be expanded more rapidly than previous schemes, given the acceleration of financial and capital market reforms in China," Sun said.

The aggregate and daily investment quota will increase significantly and the initiative will be expanded to include more securities.

If the Hong Kong Stock Exchange is connected to both of China's exchanges, Shanghai and Shenzhen, it would offer access to a much larger market. "Based on 2013 numbers, this would make it the second-largest stock market in the world," Sun said.

This should increase the scale and relevance of these markets and also improve market efficiency and the robustness of China's financial system in general, he said.

Acknowledging the "through-train's" significance, a Merrill Lynch report also offered words of caution, saying that it was "no savior of the markets".

"While we do not want to downplay the long term implications of the 'through-train', its near term impact is probably overplayed in our view - allowing investors to buy may not translate into significant orders immediately," the report said.

Meanwhile, trade volume on the benchmark Shanghai Composite Index touched a historic record of 331.26 billion yuan on Tuesday, the day after the announcement.

"It's interesting to note that, since the bear market started in 2008, most short term surges in volume had coincided with a temporary market peak," according to report.