KraneShares On How To Gauge MSCI Index Decision On China

Benchmarking China

China investors remember the spring of 2015. Local Chinese investors — gamblers one and all — were pouring into the local equity markets listed on the Shanghai and Shenzhen stock exchanges. Rumor had it that the government was promoting digital companies and start-ups, so tech stocks in Shenzhen went through the roof. The biggest rumor of all was that the MSCI would include the A-shares in its MSCI Emerging Markets Index. If so, hundreds of millions of dollars would be allocated to those exchanges by benchmark index funds and ETFs. The market skyrocketed. And then crashed shortly after MSCI said no can do. When it comes to getting creamed in the stock market, investors have a long memory. They can forget birthdays and anniversaries, but the day they lost 20% is forever etched in the brain.  This is why, perhaps, the MSCI Global Investable Market Indexes Methodology is the crystal ball into China right now, says China ETF fund managers at KraneShares. Krane runs five China exchange traded funds, including the benchmark MSCI China A-Shares (KBA 20,46 +0,24 +1,19%) fund, the competitor to the more frequently traded Deutsche Bank X-Trackers CSI 300 (ASHR 24,53 -0,17 -0,69%). KBA’s holdings represent the mainland Chinese equities listed in Shanghai and Shenzhen that are scheduled to be included into the MSCI EM. There is $1.6 trillion benchmarked to that index right now. Guess what happens when 1% of it has to go to China if you’re an ETF that tracks the index? Let’s just say: a lot.  Higher demand, higher prices. KraneShares thinks its prudent to be an expert on the MSCI’s methodology. This is all about timing. And if they know the methodology for inclusion, they know when the A-shares get their curtain call in the MSCI EM. (See “Could This Be The Most Important Publication In Asset Management?”) During the May 2013 semi-annual index review, MSCI announced the United Arab Emirates (UAE 14,93 +0,06 +0,37%) and Qatar (QAT 17,56 +0,07 +0,41%)  would be upgraded from Frontier to Emerging Markets in May 2014. They would therefore become a weighting in the MSCI Emerging Markets index, which means holders of the iShares MSCI Emerging Markets (EEM 40,84 +0,07 +0,17%) now own securities in those countries whereas before they did not. So, during this time period UAE and Qatar rose 85.6% and 49.1% respectively. The same happened pre-maturely in China two years ago. If MSCI gives the A-shares the greenlight, this market, which has yet to recover from those levels, will surely rise again. The Deutsche A-shares fund reached a peak of $55.17 on June 12 before crashing after the news that the A-shares marked for inclusion were not ready for the big-time. The ETF is now trading at $25.16.