MSCI's increased weighting of China's stocks may draw large capital inflows

Global index provider MSCI will increase the weighting of China's A-shares in its widely tracked equity indexes, a move analysts said will draw a large amount of capital into the country's stock market this year.

A total of 204 A-shares, 189 of which are mid-cap stocks, will be added to the MSCI China Index and the inclusion factor for 268 existing constituents will be increased from 15 percent to 20 percent, MSCI said on Thursday following its semiannual index review.

The representation of China's A-shares will rise to 12.1 percent and 4.1 percent in the MSCI China and MSCI Emerging Markets Indexes, respectively, after the adjustment.

All changes will be effective after the market closes on Nov 26, according to MSCI.

The announcement came as China has pledged to step up the opening of its capital markets to foreign investors and further remove investment restrictions. The country has scrapped the quota limit for qualified foreign institutional investors to invest in the onshore securities markets and the securities regulator said it will further revise the rules to make investment easier for foreign investors.

China International Capital Corporation estimated that the latest adjustment will likely bring additional capital worth $35 billion to $40 billion (including active and passive funds) into the A-share market, much higher than the previous rounds of increased weighting by MSCI.

"The equity market of China is now one of the most attractive markets in the world. Its valuation is relatively low, its companies are trustworthy and the potential of the Chinese economy is attractive. Global investors are eager about the opportunities in this country, especially when the interest rates in many economies are now turning negative," said Chen Jiahe, chief strategist at Cinda Securities.

US bank JP Morgan said in a research note that it expected China's A-share market to see $7 billion in passive capital inflow as a result of the latest weighting.

"In the longer term, we expect MSCI to further increase the inclusion factor of China A-shares, as China continues to open and reform its market, and ease access to onshore equities for foreign investors," the bank said in a note.

Stocks in sectors of banking, food and beverages, biomedicine and electronics will benefit the most from the capital inflow as they make up of the majority weighting in the MSCI inclusion. In the long term, the representation of foreign investment in the A-share market will continue to rise, according to Lianxun Securities.

MSCI said that the removal of the investment quota limit by Chinese regulators for foreign investors increased the accessibility to China's market, but issues including whether they could access hedging and derivative tools remain a factor affecting future A-share inclusion.

MSCI is not the only global index provider seeking to increase the weighting of Chinese A-shares in its indexes. FTSE Russell, another international equity index provider, is also scheduled to increase its A-share inclusion factor to 25 percent in February.

Chen Jia contributed to this story.