As the weight of China A-shares increases on a major global index, a step forward has been made allowing foreign investors to increase exposure to China's capital market and share in its growth dividends.

Global index compiler MSCI announced Thursday it will increase the inclusion factor of China A-Shares from 5 percent to 20 percent in three steps.

Upon the completion of the plan, there will be 253 large cap and 168 mid cap China A-shares, including 27 ChiNext shares, on a pro forma basis in the MSCI Emerging Markets Index, representing a weight of 3.3 percent in the pro forma index.

WIDER ACCESS

Analysts noted the move reflected global investors' increasing recognition of China's financial market development and openness, and their urgent need to gain wider access to the mainland stock market.

"The decision by MSCI is a very positive development. The benchmark provider could no longer ignore such a large equity market as the zap share market," said Jorge O. Mariscal, chief investment officer for the Emerging Markets with UBS Wealth Management.

MSCI's decision marks a significant milestone for China, said Brendan Ahern, chief investment officer of the U.S. Krane Funds Advisors.

He said that while China is the second largest economy globally, there has been a significant underinvestment in China from global investors.

"Today's decision will rectify that underinvestment in the years to come," he said, adding that the China Securities Regulatory Commission should be congratulated for their efforts working with MSCI to make Thursday's historic decision feasible.

Noting that there have been concerns about restrictions on capital flows into and out of China, Albert J. Brenner, director of assets allocation strategy with People's United Bank Wealth Management, said MSCI seems to have grown comfortable with the fact that whatever restrictions are in place right now will not prevent global investors from buying Chinese equities.

The index compiler wants the composition of its index to reflect as much as possible the opportunities investors have, said Brenner, adding that whether the opportunities are good or poor based on valuations makes little difference.

Allen Tjiong, President and CEO of BOC International (USA) Inc., said MSCI's decision is largely due to support from institutional investors and the progress made by China's regulators to improve market access.

In a statement released on Thursday, MSCI said the proposal to increase the weighting had overwhelming support from investors.

"The strong commitment by the Chinese regulators to continue to improve market accessibility, evidenced by, among other things, the significant reduction in trading suspensions in recent months, is another critical factor that has won the support of international institutional investors," the statement said.

Thursday's announcement came after an initial inclusion of China A-shares in mid-2018.

LARGE INFLOW

Analysts expected the decision to be an opportunity for both global investors and China's equities market. In the next few months, the market will see a large inflow of foreign capital.

Investors will gradually increase exposure to A-shares in anticipation of the staged changes in the benchmark weights over the next months, said Mariscal.

"Some of this has been already anticipated, but not all of it. Thus, the announcement should provide additional support for the rally to continue in the A-share market," he said.

He added that the new weight of A-Shares in MSCI Emerging Markets Index means that "more than ever, investing in Emerging Markets means investing in China."

Tjiong said index or passive funds will need to invest right away as a result of the decision. The decision is expected to lead to additional 3 billion U.S. dollars in inflows to A-shares.

Active funds may remain cautious on increasing investments in China until there is a resolution to the U.S.-China trade tensions and signs that economic growth is improving, said Tjiong.

China's stock market will be under pressure to conform to international standards in terms of market entry, listing procedures, and corporate disclosure, among others, because its performance will directly impact global investors, said Henry Huang, associate professor of accounting at Yeshiva University.

Looking forward, he said increasing international exposure of China's equities market may result in more foreign companies seeking to be listed in China.

As for the investors, the inclusion of small and mid cap securities in MSCI indices will provide a more representative investment opportunity that reflects China's economic evolution, said Ahern.

MSCI included 226 China large-cap A-shares on its MSCI Emerging Markets Index in June last year. 

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