Since first coming to power in 2012, Xi Jinping has preached economic reform as the way to achieve “the Chinese Dream.” Some of the reform measures have been aimed at deepening China’s financial markets and giving stock markets a greater role in financing corporate investment. Considered home to the deepest financial markets in the world, the U.S. may have just the blueprints for the kind of stock market development the Chinese government is looking to foster. Below is an overview of both the U.S. and Chinese stock markets with highlighting some of the unique differences.
China’s stock market is relatively young compared to the U.S. markets. While the Shanghai Stock Exchange (SSE) dates back to the 1860s, it only reopened in 1990 after being closed in 1949 when the Communists took power. The Shenzhen Stock Exchange (SZSE) also opened that same year, making China’s stock markets a mere 25 years old. While the Hong Kong Stock Exchange was founded in 1891 (and Hong Kong operates as a politically autonomous region from mainland China), it first began listing the largest Chinese state-owned enterprises in the mid-1990s.
By comparison, the U.S. stock market is 223 years old, with the New York Stock Exchange ( NYSE) originating upon the signing of the Buttonwood agreement on Wall Street in 1792. Since that time, a number of other stock exchanges have risen up in the U.S. The Security and Exchange Commission (SEC) lists nearly 25 registered national securities exchanges, the second most important exchange after the NYSE being the Nasdaq, established in 1971.
The Stock Exchanges:
Market Capitalization (USD): $17.931 trillion
Number of Listed Companies: 2,453
EOB Value of Share Trading (USD): $1.693 trillion
Market Capitalization (USD): $6.982 trillion
Number of Listed Companies: 2,850
EOB Value of Share Trading (USD): $1.211 trillion
- Shanghai Stock Exchange
Market Capitalization (USD): $4.125 trillion
Number of Listed Companies: 1,071
EOB Value of Share Trading (USD): $1.691 trillion
- Shenzhen Stock Exchange
Market Capitalization (USD): $2.742 trillion
Number of Listed Companies: 1,729
EOB Value of Share Trading (USD): $1.525 trillion
- Hong Kong Stock Exchange
Market Capitalization (USD): $3.060 trillion
Number of Listed Companies: 1,810
EOB Value of Share Trading (USD): $0.160 trillion
Source: August 2015 data from the World Federation of Exchanges (WFE)
Role in the Economy
Despite being some of the largest exchanges in the world, China’s stock markets are still relatively young and do not play as prominent a role in the Chinese economy as America’s do in the U.S. economy. According to one analyst, as of April 2015, equity markets only accounted for 11 percent of the M2 money supply in China compared to 250 percent in the U.S.
Further, whereas U.S. companies are heavily dependent on equity financing, in China only five percent of total corporate financing is funded by equity, according to Arthur R. Kroeber of the Brookings Institution. Chinese corporations rely much more heavily on bank loans and retained earnings.
With regard to investors, equities are a large part of household wealth in the U.S., with around 50 percent of the population owning stocks. In China, property, wealth management products and bank deposits make up a greater proportion of their investments with only about seven percent of urban Chinese owning stocks.
Stock markets evidently play a much larger role in the U.S. economy than the Chinese economy at both the individual investor and firm levels. While this means that China’s economy remains relatively protected from disruptive ups and downs in the stock market as recently experienced this past summer, it also means that companies remain limited in financing opportunities, a factor that can inhibit overall economic growth.
Tool for Economic Growth or Crazy Casino?
Whereas the U.S. economy plays an important role in raising investment funding for its corporations, China’s stock market has often been likened to a casino, dominated by unsophisticated retail investors gambling their wealth rather than looking for long-term sound investments.
Some studies indicate that increasing the proportion of professional and institutional investors relative to ordinary retail investors helps to improve the quality and efficiency of stock markets. This seems to make sense as professional investors are much more adept at analyzing fundamental values instead of being motivated by fear and irrational exuberance. While the proportion of U.S. equities managed by institutional investors stood at 67 percent of market capitalization as of 2010, according to Reuters, 85 percent of trades in China’s stock markets are done by retail investors. Even more worrisome, one survey found that over two-thirds of China’s newest retail investors hadn’t even earned a high school degree.
The unsophisticated nature of the majority of Chinese investors has been one reason that China’s stock markets have been likened to a crazy casino rather than a tool for economic growth. As China is looking to expand the depth and role of its stock markets it is going to need to change this perception in order to instill greater confidence from more professional types of investors, especially if it wishes to open its capital account to attract foreign investors.
Openness to Foreign Investment
Unlike the U.S. and every other major stock market in the world, the Chinese markets are almost entirely off limits to foreign investors. Despite easing capital controls allowing a limited number of foreign investors to trade on the Shanghai and Shenzhen exchanges, less than two percent of shares are foreign owned.
China’s stock shares are divided into three separate categories: A shares, B shares and H shares. A shares are primarily traded amongst domestic investors on the Shanghai and Shenzhen exchanges, although Qualified Foreign Institutional Investors (QFII) are also allowed to participate by special permission. B shares are primarily traded by foreign investors in both markets, but are also open to domestic investors with foreign currency accounts. H shares are permitted to be traded by domestic and foreign investors alike and are listed on the Hong Kong exchange.
Even though China's stock markets are more open to foreign investments and experienced a huge rally that lasted until June 2015, international investors remain wary of jumping in as foreign flows of cash remained far below daily limits.
The Bottom Line
Despite having huge total market capitalizations by international standards, China’s stock markets are still quite young and play a less significant role than they do in the U.S. As equity financing can be a significant factor for economic growth, China has much to gain from fostering further development of its markets. Giving greater access to foreign investors is a step towards deepening its financial markets, but the main hurdle will be overcoming investors’ lack of confidence.