HKG LOOKS TO INTEGRATE HONG KONG, MAINLAND STOCK

UNCLAS SECTION 01 OF 02 HONG KONG 002391 SIPDIS SIPDIS STATE FOR EAP/CM AND EEB/OMA, TREASURY FOR HARSAAGER, WINSHIP, YANG, AND CUSHMAN, NSC FOR WILDER AND TONG E.O. 12958: N/A TAGS: ECON EFIN EINV HK CH SUBJECT: HKG LOOKS TO INTEGRATE HONG KONG, MAINLAND STOCK EXCHANGES REF: A. HONG KONG 2183 ¶B. HONG KONG 2263 ¶1. Summary: The Hong Kong Government (HKG) announced late September 7 that it had acquired additional shares in the Hong Kong Stock Exchange (HKEx) through the Hong Kong Exchange Fund, sufficient to increase its holdings to 5.88% of total shares. Financial Secretary John Tsang said the acquisition of additional shares indicated the government's long-term confidence in the HKEx and support for Hong Kong's continued development as an international financial center. Tsang also suggested that the larger HKG stake in the HKEx SIPDIS would facilitate closer links with Mainland stock exchanges, including a possible share swap between the Hong Kong and Shanghai exchanges. Local analysts and an independent HKEx Director criticized the purchase, suggesting that the HKG's increased stake could negatively impact HKEx's independence. End Summary. ¶2. The Office of the Hong Kong Financial Secretary announced late September 7 that the government-administered Hong Kong Exchange Fund had acquired 5.88% of the HKEx total shares. Investments in excess of 5% must be notified to the government (in this case, an easy proposition) and the public. Local press reports that the Exchange Fund spent HKD 2.4 billion (USD 312.8 million) on September 7 to increase its stake from 2.5% to 5.88%, in the process driving the price of HKEx shares to an all-time high of HKD 158 per share. (Note: the Hong Kong Exchange Fund was established in 1935 to back the value of Hong Kong currency. In 1978 the government began placing fiscal reserves in the Fund and in 1998 the Fund began to actively manage these reserves. The Exchange Fund is managed by the Hong Kong Monetary Authority. End Note.) ============================================= ===== HKG Move to Demonstrate Confidence Inspires Doubts ============================================= ===== ¶3. Financial Secretary (FS) John Tsang, in a September 7 press release, said the acquisition would demonstrate the government's long-term confidence in the HKEx and support for the maintenance of Hong Kong as an international financial center. He added that the purchase would allow the HKG to contribute as a shareholder to the promotion of HKEx's strategic development. The government's move was criticized by local observers and one independent Director of the HKEx Board. On September 10, a widely circulated Citigroup report questioned why the government waited to disclose its interest in increasing its holdings of HKEx and questioned the independence of the government-appointed HKEx Chairman, Ronald Arculli. ¶4. Independent HKEx Director David Webb challenged the purchase as intervention in the Hong Kong market. He added that although the HKG ultimately disclosed its purchase of the shares, there was no guarantee that it would disclose future purchases in a timely manner. The HKG currently controls the board of the HKEx; shareholders are allowed to elect only 6 of the 13 directors. Even without the increased stake, "the Hong Kong Government ultimately gets what it wants in the HKEx Boardroom," said Webb. On September 10, Financial Secretary Tsang rejected the accusation that the HKG was intervening inappropriately in the market through the Exchange Fund and took full responsibility for the decision to increase the government's stake in the HKEx. ============================================= Promoting Integration with Mainland Exchanges ============================================= ¶5. In a speech at the Hong Kong Foreign Correspondents Club September 12, Tsang said the HKG increased its shareholding in order to promote the exchange in a "more organized manner, and one more consistent with the PRC's 11th Five Year Plan." He noted his intention to find ways to further integrate the Hong Kong and Mainland share markets, including through government-to-government cooperation, exchange-to-exchange and shareholder-to-shareholder cooperation. Government-to-government cooperation is already taking place through the Qualified Domestic Institutional Investor (QDII) scheme, the development of RMB-denominated financial assets for sale in Hong Kong, and the recent announcement that Mainland individual investors would be allowed to invest directly in Hong Kong equities (the through-train scheme). HONG KONG 00002391 002 OF 002 ¶6. On the exchange level, Tsang offered to do more to promote the integration of the Hong Kong and Mainland share markets, noting the current practice by some Chinese companies of dual-listing A shares in Shanghai and H shares in Hong Kong. He added that information sharing between the Mainland and Hong Kong exchanges would increase. At the shareholder level, Tsang said that a greater HKG stake in HKEx would allow greater flexibility in dealing with future arrangements between the HKEx and Mainland bourses, specifically raising the possibility of a share swap between HKEx and the Shanghai exchange as a means of further integrating Hong Kong and Mainland exchange operations. ¶7. In response to questions about why the HKG had not disclosed its plan earlier to purchase an additional stake in the HKEx and why it chose to do so now when prices were at their peak, Tsang noted the government had been purchasing shares for several years and had only made the announcement when they had exceeded the government-mandated 5% cap (effectively doubling their holdings) requiring public notification. In fact, he said, the average purchase price was far below the HKEx peak and would prove to be a bargain for the government. Cunningham