ELSEVIER Pacific-Basin Finance Journal 2 isk and return on China’s Some preliminary PACIFIC-BASIN FINANCE JOURNAL ( 1994) 243-260 new stock markets: evidence Warren Bailey* Johnson Graduate School of Management, Cornell Unicersity, Ithaca, NY 14853-4201, USA Abstract This paper looks at the brief history of Chinese stock markets since they opened to the world with the listing of ‘B’ shares targeted at non-Chinese investors. B share returns exhibit little or no correlation with international stock index returns or returns on China-related stocks traded in Hong Kong and the United States. However, instruments for international risk premiums have some power to forecast B share returns. Discounts at which B shares trade relative to ‘A’ shares available to Chinese citizens are correlated across firms and related to similar premiums in other Asian markets. However, they exhibit little association with instruments for interna- t!onal risk premiums. The results suggest that B shares have considerable diversifi- cation value but are not entiytly segmented from global financial conditions. Key words: China; International finance; Portfolio management; Emerging markets JEL clu.ss$kution: F36, G 12, G 15, P33 1. Introduction China’s recent history of economic expansion is unique among developing countries. Since Deng Xiaoping’s economic reforms began in 1978, Chinese GDP growth has averaged 9::~ annually. The success of the Chinese government’s economic policies represents an interesting model for other countries and has attracted the attention of direct and portfolio investors from overseas. The pace of change in China’s capital market has been especially *Tel. (607) 2554627. I thank Jane Wu for research assistance, and Yuk Shee Ghan, Terence Khoo. and participants in the Fifth Annual PACAP Conference for comments on an earlier draft. 09~7-.C3~X,‘O4,~$07.0(~ ‘( I993 I:lscvictr Science B.V. Al1 rights wwrvcd SSDI 0927-038X( 94)(HwwP
Transcript
ELSEVIER Pacific-Basin Finance Journal 2
isk and return on China’s Some preliminary
PACIFIC-BASIN FINANCE JOURNAL
( 1994) 243-260
new stock markets: evidence
Warren Bailey*
Johnson Graduate School of Management, Cornell Unicersity, Ithaca, NY 14853-4201, USA
Abstract
This paper looks at the brief history of Chinese stock markets since they opened to the world with the listing of ‘B’ shares targeted at non-Chinese investors. B share returns exhibit little or no correlation with international stock index returns or returns on China-related stocks traded in Hong Kong and the United States. However, instruments for international risk premiums have some power to forecast B share returns. Discounts at which B shares trade relative to ‘A’ shares available to Chinese citizens are correlated across firms and related to similar premiums in other Asian markets. However, they exhibit little association with instruments for interna- t!onal risk premiums. The results suggest that B shares have considerable diversifi- cation value but are not entiytly segmented from global financial conditions.
Key words: China; International finance; Portfolio management; Emerging markets
JEL clu.ss$kution: F36, G 12, G 15, P33
1. Introduction
China’s recent history of economic expansion is unique among developing countries. Since Deng Xiaoping’s economic reforms began in 1978, Chinese GDP growth has averaged 9::~ annually. The success of the Chinese government’s economic policies represents an interesting model for other countries and has attracted the attention of direct and portfolio investors from overseas.
The pace of change in China’s capital market has been especially
*Tel. (607) 2554627. I thank Jane Wu for research assistance, and Yuk Shee Ghan, Terence
Khoo. and participants in the Fifth Annual PACAP Conference for comments on an earlier
draft.
09~7-.C3~X,‘O4,~$07.0(~ ‘( I993 I:lscvictr Science B.V. Al1 rights wwrvcd
significant in the last few years. The first corporate securities of post-1949 China were an issue of bond-like shares by Foshan Trust and Investment in 1984. Other such issues followed and, in 1986, interbank, currency, and bond markets emerged in Shanghai and Shenyang. An August 1986 news story in the authoritative People’s Daily indicated that the issuance of corporate shares was consistent with the Marxist ideal of common ownership of capital. The following month, the Shanghai Stock Exchange was opened and commenced trading bond-like shares of two ‘socialist joint-stock companies’. Succeeding years saw additional issues of shares, the continued growth of the Shanghai exchange, and the inauguration of the Shenzhen Stock Exchange in the Special Economic Zone just north of Hong Kong.’
China’s equity markets opened to the outside world when trading in Class B shares of Shanghai Vacuum Electron commenced on 21st February 1992. Class B shares can be owned only by foreigners and trade alongside otherwise identical Class A shares which can be owned only by Chinese citizens. The Shanghai Vacuum issue was quickly followed by the listing of Class B shares of China Southern Glass on the Shenzhen Stock Exchange on 28th February. Since that time, many additional B share listings have appeared on the two bourses while many others are planned. The Stock Exchange of Hong Kong lists China-related stocks like CITIC Pacific, China Travel International, Denway, Guangdong investments, Tian An China Land, and other so-called ‘red chips’. The first Chinese stock to list overseas, Brilliance China Automotive Holdings, began trading on the New York Stock Exchange on 9th October 1992. It has since been joined by three other firms. Several other Chinese enterprises, including the well-known Tsingtao Brewery, listed ‘H‘ shares on the Stock Exchange of Hong Kong in 1993.
This paper offers preliminary evidence on price behavior in China’s new stock markets. It addresses the enormous interest China’s growing capital markets have generated among academics, investors, development econ- omists, and policy-makers. Furthermore, Chinese markets offer an oppor- tunity to stud:? the behavior of a rapidly-growing emerging securities market which accommodates foreign investors with a specific class of security. The paper summarizes the univariate behavior of B share returns and their associations with international stock index returns and other global econ- omic indicators. The paper also examines the divergence between B share prices and prices for the ‘A’ shares available only to Chinese citizens, a phenomenon which parallels other Asian and European stock markets. The paper is organized as follows. Section 2 discusses the dataset and the methodology employed. Section 1 _, piesents evidence on B share returns while Section 4 presents evidence on the discounts at which B shares trade relative to A shares. Section 5 is a summary and conclusion.
W. Bailey / Pac$c- Bash Finance Joumal2 (1994) 243-260 245
2. Data and methodology
Both the Shanghai and Shenzhen markets are modern exchanges based on computerized order entry and book entry of ownership records. Capitaliza- tion of each market is on the order of several billion U.S. dollars.2 Figs. 1 and 2 plot weekly stock indices and trading volumes from the two exchanges. It is apparent that prices have been quite volatile and volume has tended to grow with time. The Shanghai market was subject to daily price change limits of 1% through 5th May 1992 and 5yi through 20th May 1992.
The markets have opened to foreign investors only recently so a limited time-series and cross-section of price data is available.3 Aside from some sharp prices obtained from newspapers for the early part of our sample, all data was obtained from the Bridge Information System. Closing B share prices were gathered weekly (Fridays) for the period March 1992 to March 1993. To obtain the longest time-series possible, only those companies which have traded for a relatively long time have been included in the sample. From the Shanghai market, we selected China Textile Machinery and Shanghai Vacuum Electron. From the Shenzhen market, we selected China Southern Glass, China Bicycle Holdings, Huafa Electronics, Konka Electro- nics, Shenzhen Petrochemicals, and Shenzhen Property and Resources Deve- lopment. Prices for A shares, or B share discounts expressed as a fraction of the A share price, were also collected for each firm. To convert prices and returns into Hong Kong currency, we also collected Renminbi/Hong Kong dollar exchange rates quoted in the swap market for securities-related currency transactions. These rates differ considerably from the official exchange rate. Since B shares listed in Shanghai trade in U.S. dollars,4 it was also necessary to obtain a Hong Kong dollar/U.S. dollar exchange rate series.
Additional variables from international capital markets were collected as follows.’ First, we obtained stock indexes representing Hong Kong (Hang Seng), the U.S. (Standard and Poors 500), and the rest of Europe and Asia (Europe, Australia, Far East Index), and share prices for Hong Kong companies which have extensive business links to China: Guangdong Invest- ments, Hopewell Holdings, Kong Wah Holdings, Luks Industrial, and Tian An China Land. Kong Wah and Luks are particularly interesting as they are the Hong Kong parents of Shenzhen-listed Konka and Huafa respectively. Next, we constructed time-series of variables inspned by previous works on
’ In early 1993, the aggregate capitalization of the two Chinese markets was $14 billion, with B shares accounting for $1 billion of that amount. See Glnhal Finmce, February 1993, p. 45. “A’ shares have traded prior to 1992 but data availability is even poorer. 4 Recently, B share quotes from Shenzhen have been supplied in U.S. dollars as well. ’ Because the sample is weekly, it was not possible to incorporate monthly Chinese macroecono- mic factors into the analysis.
time-varying risk premiums and the forecastibility of asset returns. They are the yield on a three-month U.S. Treasury bill (TBILL), the yield spread between the benchmark thirty-year U.S. Treasury bond and the three-month U.S. Treasury bill (TERM), the dividend yield on the Standard and Poors 500 index (SPDIV), and the lagged return on the Hang Seng Index (RHANG-I). Additionally, we obtained share prices for several companies in Thailand and Singapore which have both local-restricted and foreign classes of shares similar to the Chinese case. Specifically, we obtained Main and Alien Board prices from the Securities Exchange of Thailand for Bangkok Bank and Siam Cement, and ordinary and foreign prices from the Stock Exchange of Singapore for Development Bank of Singapore and Singapore Airlines.
An additional dataset consists of daily observations of the price of Brilliance China Automotive Holdings on the New York Stock Exchange and JinBei Automotive Works A on the Shanghai exchange. These compa- nies are related in that they share ownership of the same asset, a minibus factory called Shenyang Automotive. They are of particular interest since Brilliance China is the first PRC listing outside China. Since Brilliance China began trading only in October 1992, the available data series is extremely limited.
Most of the results in the paper are based on straightforward summary statistics and correlations which characterize the behavior of B share returns and price discounts. Additionally, we adopt a time-series regression specifica- tion inspired by interesting recent work in empirical asset pricing. We follow Keim and Stambaugh ( 1986), Fan-Is a11 d French ( 1989), Ferson and Harvey ( 199 1 ), Campbell and Hamao ( 1992), and other authors and relate B share returns to lags of instrumental variables:
where ri(f,t + 1) represents the return on the jth B share from time t to t+ 1, Z,(r) is the value of the ith ex ante variable observed at time t, and the sci terms are coefficients. The idea behind the regression is that investors form expectations of stock returns from observable information and impound these in ex ante expected stock returns, E,{rj(t,r+ 1)). The &(t) variables are a subset of the information, Q(t), available to investors when such expec- tations are formed:
where the i,i coefhcients are ex ante risk premiums and the /$ coefficients represent the exposure of the stock’s return to macroeconomic and fmancial risks. Thus, the power of these variables to forecast realized stock returns is consistent with the presence of time-varying risk remiums that are reflected,
with noise, in realized returns. In particular, Ferson and Harvey (1993) and other recent works show that common global financial variables can often forecast stock index returns across many countries
Finally, we follow Bailey and Jagtiani (1993) in trying to explain the discount offered for B shares relative to A shares, ( pjBb(t) - @“(t))/( P’*“(t)). Global factors should influence the prices that international investors are willing to pay for B shares, relative to the A share prices paid by Chinese citizens. For example, an increase in global interest rates can decrease the prices that foreign investors are willing to pay for B shares relative to the prices at which A shares trade, and, thus, increase the B share discount. Proxies for the relevant global factors may be able to explain variation in B share discounts. Furthermore, these common global factors should cause B share discounts to rise and fall together, along with similar foreign price premiums in other Asian markets.
3. Results: B share returns
Table 1 presents evidence on the distribution of weekly returns. The number of return observations in the one year sample ranges from 34 to 52. Average returns vary from negative to positive across the companies in the sample. Most notable are the differences in return volatility across the Shanghai, Shenzhen, and foreign markets. For example, China Southern Glass has a weekly return standard deviation of 9.07% and Shanghai Vacuum has a standard deviation of 7.06%. These volatilities are similar to those exhibited by small China-related Hong Kong stocks like Guangdong Investments but are much larger than the volatilities of well-known China- related stocks like Hopewell. There are no discernable patterns in return autocorrelations, perhaps because the small time-series does not allow for very precise estimates. The evidence suggests that the Shenzhen and Shang- hai market; are relatively small, volatile, and information-poor. Table 2 summarizes weekly trading activity in Shanghai and Shenzhen. Particularly in Shanghai, A share activity is often greater than B share activity, although all shares typically exhibit at least a few thousand board lots of volume each week.
Table 3 presents correlations between returns on Chinese stocks and price changes of the Standard and Poor’s 500, Hang Seng, and EAFE indexes. Only a few of the correlations are statistically significant. While this suggests that Chinese stocks may be good diversification vehicles for foreign investors, the size and significance of correlation estimates may rise when longer time- series of observations are available for analysis. Table 4 presents correlations between returns on Chinese stocks and returns on China-related stocks traded in Hong Kong. As we might expect, t ere are several significant
Tab
le
1 U
niva
riat
e su
mm
ary
stat
istic
s on
w
eekl
y st
ock
and
inde
x re
turn
s.
The
sa
mpl
e co
nsis
ts
of i
ndiv
idua
l st
ock
pric
es
from
th
e Sh
angh
ai,
Shen
zhen
, an
d, H
ong
Kon
g ex
chan
ges,
and
st
ock
inde
xes
repr
esen
ting
Hon
g K
ong,
th
e U
.S.,
and
the
rest
of
the
w
orld
. R
etur
n se
ries
are
gro
uped
as
Sha
ngha
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ocks
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enzh
en
stoc
ks,
inte
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dexe
s, a
nd
Chi
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elat
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Hon
g K
ong
stoc
ks.
B s
hare
s ca
n be
ow
ned
only
by
non-
Chi
nese
. T
ime
peri
od i
s M
arch
19
92 to
Mar
ch
1993
. All
retu
rns
are
in H
ong
Kon
g do
llars
. t,
*, a
nd
** i
ndic
ate
corr
elat
ion
coef
fici
ent
is s
igni
fica
nt a
t lo
o/
5%,
or
l”/&
leve
l, re
spec
tivel
y
Ret
urn
seri
es
Num
ber
of
obse
rvat
ions
M
ean
Stan
dard
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ion
Aut
ocor
rela
tion
at l
ag:
1 2
7,
3 4
Chi
na
Tex
tile
Mac
hine
ry
B
34
-0.0
009
0.07
76
- 0.
027
-0.0
66
-0.1
77
0.05
5 Sh
angh
ai
Vac
uum
E
lect
ron
B
52
-0.0
061
0.07
46
-0.1
17
- 0.
072
- 0.
036
-0.0
44
Chi
na
Sout
hern
G
lass
B
C
hina
B
icyc
le H
oldi
ngs
B
Hua
fa
Ele
ctro
nics
B
K
onka
E
lect
roni
cs
B
Shen
zhen
Pe
troc
hem
ical
s B
Sh
enzh
en
Prop
erty
an
d R
esou
rces
Dev
elop
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t B
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ndex
St
anda
rd
and
Poor
s 50
0 In
dex
Eur
ope,
A
ustr
alia
Fa
r E
ast
Inde
x
51
0.01
09
0.09
07
0.15
9 0.
109
0.20
2 0.
202
48
0.00
56
0.10
60
0.09
3 -
0.02
0 0.
089
0.21
1 44
-
0.00
30
0.10
49
0.12
6 0.
219
0.06
1 0.
015
49
0.00
33
0.10
24
0.19
3 0.
087
- 0.
002
0.18
3 43
-
0.00
23
0.09
70
0.11
0 0.
001
-0.1
16
0.03
5
48
0.01
20
0.11
01
0.10
9
52
0.00
54
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53
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0.
0131
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52
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4 0.
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111
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4 -
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056
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ian
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5 0.
096
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16
0.02
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4
250
Table 2 Average weekly trading volume in board lots of loo0 shares. This table characterizes trading activity on China’s two stock exchanges. The sample includes individual stock prices from the Shanghai and Shenzhen exchanges. In the table, stocks are grouped as Shanghai stocks or Shenzhen stocks. B shares can be owned only by non-Chinese. Time period is March 1992 to March 1993
Company
China Textile Machinery Shanghai Vacuum Electron
China Southern Glass China Bicycle Holdings Huafa Electronics Kon ka Electronics Shenzhen Petrochemicals Shenzhen Property and
Resources Development
A shares
3416 11950
2432 2917 ‘7’0 _ _ 2205 2034
2474
B shares
ld56 1537
17x5 3079 3548 1068
2172
4066
Table 3 Correlations between weekly returns on Chinese stocks and internatio- nal stock indexes. The sample includes individual stock prices from the Shanghai and Shenzhen exchanges, and stock indexes representing Hong Kong. the U.S.. and the rest of the world. In the table, stocks are grouped as Shanghai stocks or Shenzhen stocks. B shares can be owned only by non-Chinese. All returns are in Hong Kong dollars. Time period is March 1992 to March 1993. t, *. and ** indicate correlation coefficient is significant at lo”,,. S”,,, or I”,, leve!, respectively
Return series Correlation with return on
China Textile Machinery B Shanghai Vacuum B
SP500
0.002 0.172
China Southern Glass B 0.000 China Bicycle B - 0.065 Huafa B 0.185 Konka B -0.1 I5 Shenzhen Petrochemicals B 0. IO2
Shenzhen Property B 0.062
Hang Seng EAFE
0.336t 0.008 0.366** 0.046
0.140 0.133 0.101 -002 0.028 - 0.005 0.05 I 0.127
- 0.023 0.085 0.209 0.1 16
correlations. For example. the correlations between two property companies, opewell and Shenzhen Properties, and between property stock Tian An
China Land and industrial stock Shanghai Vacuum are about 25’:, or more, and statistically significant. On the other hand, there are many examples of
lation. In particular, there appears to be no strong correlation e two pairs of ong Kong parents a en subsidiaries,
Table 4 Correlations between weekly returns on Chinese stocks and China-related stocks trading on the stock exchange of Hong Kong. This table compares returns on Shanghai and Shenzhen listed B shares with returns on China-related stocks listed in Hong Kong. B shares can be owned only by non-Chinese. The Hong Kong companies are as follows. Hopewell has electricity generation, highway construction, and property development projects in Guangdong province. Guangdong and Tian An are smaller recent listings with property in Guangdong and Fujian provinces. Kong Wah is the Hong Kong parent of Shenzhen-listed Konka and Luks is the Hong Kong parent of Shenzhen-listed Huafa. All returns are in Hong Kong dollars. Time period is March 1992 to March 1993. i. *, and ** indicate correlation coefficient is signiftcant at lo”,,, 5”,,. or l”,, level, respectively
Return series Correiation with returns on: --.-- __ __~_
China Textile Machinery B Shanghai Vacuum B
China Southern Glass B China Bicycle B Huafa Electronics B Konka Electronics B Shenzhen Petrochemicals B Shenzhen Property B
Kong Wah/Konka and Luks/Huafa. This evidence is puzzling: foreign investors have access to both the Hong Kong and B share markets and. thus, we would expect stronger correlations due to common information events and shifts in global capital market conditions.
Table 5 presents estimates of regression 1 which attempt to identify the presence of risk premiums common to B share returns and international capital markets. B share returns are regressed on lags of U.S. interest rate and stock market factors and a lagged Hong Kong stock market factor. TBILL-1 reflects the global time value of money while TERM-l reflects expectations about changes in those costs. SPDIV-1 reflects U.S. equity market risk premiums and RHANG-1 represents Hong Kong equity market premiums. Many empirical asset pricing papers have employed similar lagged interest rate and stock index variables to forecast stock returns. The table indicates many associations in the B share market. For example, the regression for China Southern Glass has an adjusted R2 of 7.S),, a significantly positive slope coefficient on the dollar interest rate, and a significantly negative slope coefficient on the U.S. stock market dividend yield. Other significant associations are evident among four of the other seven stocks. Thus, there is substantial evidence that global factors influence ex ante risk premiums in the B share market.
For evidence on associations between ‘offshore’ versus ‘onshore’ China- related investments, Fig. 3 plots the price be rilliance China, a
Table 5 Forecasting weekly returns on Chinese stocks with international macroeconomic and financial indicators. This table measures the ability of global variables to forecast weekly returns on Chinese stocks. The sample includes individual stocks from the Shanghai and Shenzhen exchanges. B shares can be owned only by non-Chinese. Weekly returns are regressed on lags of the 3 month U.S. Treasury bill yield (TBILL-I), the spread between the long U.S. Treasury bond yield and the 3 month Treasury bill yield (TERM-l ). the dividend yield on the Standard and Poors 500 Index (SPDIV-I), and the return on the Hang Seng Index (RHANG-I). All returns are in Hong Kong dollars. Time period is March 1992 to March 1993. T-statistics are adjusted for heteroskedasticy and serial correlation with the method of Newey and West (1987)
Return series Slope coefficient (t-statistic) on:
__ ._-. . . -
China Textile Machinery B
Shanghai Vacuum B
China Southern Glass B
China Bicycle B
Huafa B
Konka B
Shenzhen Petrochemicals B
Shenzhen Property B
TBILL-1
0.0763 (0.92) 0.1187
(20.80)
0.1625 0.2355 (20.11) (10.85)
0.1878 0.1971 (20.16) ( 10.60)
0.0832 0.1285 (0.71) (0.70) 0.2277 0.3511
(20.34) ( 20.42 ) 0.1190 0.1731
(0.98) (10.13) 0.1491 0.1291
( X:9) (0.86)
TERM-1 _ ~__
0.3205 (30.02)
0.2235 (20.52)
SPDIV-I RHANG-I
-- -0.8587 - 0.4565 (-30.811 (-20.53)
-0.5’000 -0.1068 ( - 20.59) ( -0.85)
-0-5647 0.18b2 ( - 20.72) (0.59) -0.6918 0.0554
( - 20.51) (0.13) - 0.2742 0.5878
( -0.80) (10.31) - 0.8463 - 0.232 1
( - 30.10) ( -0.99) - 0.5355 - 0.3603
( - 10.82) (-0.91 )
- 0.3096 - 0.2240 ( - 10.00) ( -0.59)
R2 DW
0.179 20.42
0.047 20.50
0.075 20.05
0.087 20.08
-0.019 20.00
0.136 10.78
-0.004 10.62
-0.005 10.85
New York listed company, and the dollar value of the A shares of JinBei Automotive, a Shanghai company? As mentioned previously, these compa- nies share ownership of a minibus factory in northeast China. The plot suggests that the two price series are not strongly correlated? This is consistent with the presence of significant barriers to capital and information flows between the Chinese citizens who trade JinBei shares and the non- Chinese who trade Brilliance China shares. Additional results (not reported) indicate that A share returns are uncorrelated with returns on the Standard and Poor’s 500, Hang Seng, and EAFE indexes and with returns on the China-related Hong Kong stocks in the dataset. This again suggests that China’s domestic securities market is effectively segmented from the outside world, although there is evidence of significant positive correlation between
’ There are no B shares available for JinBei. ’ For the period from October 1992 to March 1993. the correlation (p-value) between daily returns expressed in dollars is -0.022 (0.826).
253
ri 30
‘i: n
$25 f 5 =
820 I! z z -15
921009 921109 921208 930108 930208 930309
- CBA
-c JBEA
Fig. 3. Daily prices for Brilliance China and JinBei Automotive.
the A and B share returns of China Bicycle, Huafa, Shenzhen Petrochemical, and Shenzhen Properties.
To summarize this section, we can characterize the B share markets as volatile and demonstrating only small (but sometimes significant) links to broader international influences. There also appear to be severe barriers between the A share markets and the New York, Hong Kong, and B share markets where foreigners trade Chinese equities.
4. Results: the B share price discount
One of the most interesting facets of China’s new stock markets is the ability to observe the difference in the prices Chinese and non-Chinese investors pay for identical shares. B shares are available only to foreigners’ and A shares only to Chinese, and there are no straightforward arbitrage channels to drive prices together. Similar phenomena can be observed in Southeast Asian markets and in a few smaller European markets.
Table 6 presents time-series averages for the discounts at which B shares trade relative to A shares. 9 Figs. 4 and 5 plot the weekly discounts for the
a To some extent, PRC resident investors can purchase B shares using overseas businesses or nominees. 9The number of observations of the B share premiums equals the number of return observations noted in Table 1 plus one.
254
Table 6 Summary statistics on the weekly B share premium and cross-correlations between changes in B share premiums and changes in related premiums in other Asian stockmarkets. This table compares the relative prices of Chinese A and B shares to relative prices of free and local restricted shares from Thailand and Singapore. B shares can be owned only by non-Chinese. The premium on B shares is computed as the B share price minus the A share price, divided by the A share price. The premium represents the differential value a foreign investor puts on the security. Similar computations based on Alien versus Main Board prices from Bangkok and
are used for the Thai and Singaporean stocks. i, *. and ** indicate correlation coefficient is
ordinary versus foreign prices from Singapore Time period is March 1992 to March 1993. significant at lo”,,, SO,. or loo level. respectively
Company Average B share Premium
Correlation (p-value) of premium change with premium change for:
Bangkok Bank 0.1908 Siam Cement 0.1842 Development Bank of Singapore 0.1485 Singapore Airlines 0.3 158
firms in our sample. The discount (or premium) is computed as the B share price minus the A share price, divided by the A share price. The B share discounts are uniformly enormous. For example, the discount for Shanghai Vacuum averages 64.71,; and that for China Bicycle Holdings averages 44.67;. Discounts in the Chinese markets contrast strongly with pre;ivums observed in Thailand and Singapore. lo Table 6, along with Fig. 6, describe the discounts (or, in these cases, premiums) for similar ‘foreign class’ shares in other nations. In contrast to the heavy discounts in the Chinese markets, other Asian shares sell at considerable premiums to foreigners. For example, Bangkok Bank traded at an average premium of 19.1’,‘,; on the Alien Board of the Stock Exchange of Thailand, and Singapore Airlines Foreign traded at
‘“The Thai and Singaporean cases differ from China in that the local price serves as a lower bound on the foreign price: if enough foreigners sell shares a+ 1y the level of foreign ownership drops below legal limits, foreign class shares revert to local class shares which can be bought by either ICKitlS or foreigners.
255
9;10306 920501 920626 920821 921016 921211 930205
Fig. 4. Shanghai B share price discount as fraction of A share price.
Fig. 6. Thai and Singaporean foreign share premiums.
an average premium of 3 1.6?; on the Stock Exchange of Singapore. Similar premiums prevail for other Thai, Singaporean, Malaysian, Philippine, and Indonesian stocks.
Hietala ( 1989) Bailey and Jagtiani ( 19933, and Stulz and Wasserfallen ( 1993) show price prentiurns for shares available to foreignt;rs can be caused by differing foreign versus local required returns or by supply and demand factors. We can formulate a specific explanation for large B share discounts as fol!ows. First, the cost of capital for Chinese citizens may be lower than that for foreigners: the Shanghai and Shenzhen stock markets may represent the only investment alternative to low-yielding bank deposits.” Second, if B share investors are primarily Hong Kong residents, they may perceive Chinese poli,ical and economic risks as undiversifiable and, thus, discount B share prices heavily for systematic risk. Thus, rational asset pricing concepts combined with circumstances peculiar to China and Hong Kong may explain the B share discounts. Differential liquidity and information availability may also explain time-series and cross-sectional variation in B share discounts.’ 2 Alternatively, we could invoke ‘investor sentiment’ notions following Lee, Shleifer, and Thaler ( 1991) in their study of discounts and premiums on closed end mutual fund shares. Indeed, stories in the financial press have
-- ” It is estimated that $300 billion are invested in savings accounts at state-controlled substantially below the inflation rate. I2 See Amihud and Mendeison ( 1986), Merton ( 1987). and Bailey and Jagtiani ( 1993).
yields
Table 7 Cross-correlations between changes in B share premiums. This table compares the relative prices of Chinese A and B shares within and across the Shanghai and Shenzhen markets. B shares can be owned only by non-Chinese. The premium on B shares is computed as the B share price minus the A share price, divided by the A share price. The premium represents the d~erent~~~ value a foreign investor puts the security. Time riod is March 1992 to March 1993. k, *, and +* indicate correlation co cient is si~ni~ca~t at 1V,, So,, or tO, ievel, res
.____ _~ - Company Correlation between premium changes with:
China Textile Machinery Shanghai Vacuum
China Southern Glass Cka Bicycle H uafa Konk ,i Shenzhen Petrochemicals
Shanghai China China Huah Konka Shenzhen Shenzhen Vacuum Southern Bicycle Petro- Pi-opery
suggested that unseasoned or unduly optimistic Chinese investors may be the source of high A share prices.
Tables 6 and 7 contain additional intriguing evidence on the B share discounts. Discounts and premiums across China, Singapore, and Thailand show some tendency to move together. For example, the correlation between the changes in the discount on China Bicycle and changes in the premium on Siam Cement is about a third: the Alien Board premium on Siam Cement tends to rise at the same time that the B share discount on Shanghai Vacuum declines. Furthermore, Table 7 shows that the discounts are strongly correlated across stocks within each Chinese market, and across the Shang- hai and Shenzhen markets. This suggests the presence of a common influence, possibly international investors who simultaneously trade South- east Asian and Chinese markets as international capital market conditions change and their portfolios require rebalancing. Some significant negative correlations in Table 6 are hard to explain, though they may be due to the idiosyncratic behavior of the premium on Singapore Airlines as suggested by Fig. 6. Again, we could invoke psychological explanations: common move- ments in discounts and premiums across Asian countries can be caused by common shifts in international ‘investor sentiment’ towards Asia, or by shifts in international sentiment from one Asian country to another.
A final piece of statistical evidence on the B share discounts results from regressing the B share discounts on the lagged factors e ployed as explana-
tory variables in regression regression 1. This indicates whether discounts are related to global interest rates and risk premiums. While we cannot draw strong conclusions from our small sample, the results (not reported) indicate little association between B share discounts and global financial market indicators.’ 3 This suggests that Chinese asset prices are largely uncorrelated with systematic global forces, although this is inconsistent with the observed correlations between B share discounts and foreign class premiums in Thailand and Singapore.
5. Summary and conclusion
This paper has presented ?entative evidence on the behavior of prices on China’s new stock markets. The focus has been on the B shares which are available :G non-Chinese investors. B share returns have little association with international stock index returns or returns on China-related stocks traded in Hong Kong and New York. There are, however, significant associations between B share returns and lagged values of global financial market indicators, suggesting some commonalities between global and B share required returns. Discounts on B shares relative to A shares are inconsistent with premiums observed in other Asian capital markets and are hard to explain quantitatively, though it is sensible to imagine that the pent- up savings of Chinese citizens and the systematic political risk perceived by Hong Kong investors have an effect. Furthermore, the correlation of B share discounts with similar phenomena in Singapore and Thailand is consistent with simple notions of equilibrium cross-border asset pricing.
Several methodological issues and other questions should be noted. We have examined a very short series 3f weekly prices for a small cross-section of securities. Furthermore, we have not imposed restrictions implied by equilibrium asset pricing models, but have merely presented simple correla- tions and regressions inspired by those models. Thus, results which are seemingly consistent with the predictions of equilibrium asset pricing theories may merely represent spurious correlations driven by uztliers or other artifacts of the data. Additionally, we have not addressed issues of market efficiency which often arise in the financial and popular press.‘” For example. the dearth of information on listed companies and the lack of corporate accountability for funds raised by securities issues raise questions about the purposes these markets serve and the motivations of the corpor- ations and investors who participate in them. *’
inese market data grows, it
evidence. Differences in the price-
aracteristics of Chinese securities listed in China versus Hong Kong and bv York remain to be explained.” 6 The data on the great number of China-relate ong stocks and close funds can help expand the cross-section of securities available for study. Rather than adopting t e international focus of this paper, it wil be useful to
focus on interactions between A share prices and domestic Chinese banking, monetary, and macroeconomic conditions. When historical balance sheet and income statement data becomes available, a wealth of additional research becomes possible. Thus, this is likely to be only the first of many papers to be written about China’s growing capital markets.
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