Insights

1 Huge Reason Why HKEX Shares Have Surged in 2020

Here’s how Hong Kong Exchanges and Clearing Limited’s (SEHK: 388) Stock Connect has grown over the years and how it helps its dividend. – Hong Kong buildings

Hong Kong Exchanges and Clearing Limited (SEHK: 388), or HKEX, has an effective monopoly on the stock exchange in Hong Kong.

Despite the coronavirus outbreak and the Hang Seng declining year-to-date, HKEX has performed well in 2020.

As of late August, shares of HKEX are up almost 50% in 2020, easily outperforming the Hang Seng Index.

One reason for HKEX’s outperformance is the strength of its Stock Connect revenues with mainland China.

Here’s more on the Stock Connect, and what the strength of HKEX’s Stock Connect business means for HKEX’s dividend.

What is Stock Connect?

The Stock Connect links Hong Kong’s stock exchange with the Shanghai and Shenzhen stock exchanges. Although not all stocks are connected, the Stock Connect covers more than 2,000 stocks.

Each HKEX Stock Connect with Shanghai and Shenzhen has a “Northbound Connect”, where Hong Kong capital goes to the mainland, and a “Southbound Connect” where mainland capital flows to Hong Kong.

Although there is a daily quota, in terms of the maximum amount of capital that can pass through each day, the HKEX’s Stock Connect business has boomed since it was first introduced in 2014.

From 2015 to 2019, HKEX’s Southbound portfolio value has had a compound annual growth rate (CAGR) of 77.3%, rising from HK$115 billion (US$14.8 billion) to HK$1.138 trillion.

In the same period, HKEX’s Northbound portfolio value has increased even faster, at an 84% CAGR.

Due to the increases in capital flows, HKEX’s Stock Connect sales have increased substantially thanks to more trading fees.

In 2019 HKEX’s Stock Connect business sales rose 49% year-on-year to HK$1 billion. In interim 2020, HKEX’s Stock Connect revenue and other income rose 46% year-on-year to HK$743 million.

By contrast, HKEX’s total 2020 revenue and other income only rose 2% year-on-year.

Although HKEX’s Stock Connect growth will slow in the future, it could still account for a sizable percentage of HKEX’s total growth in many years. 

The reasoning behind Stock Connect

With the Stock Connect, investors can better diversify their portfolios. Many international investors are in Hong Kong and have a lot of capital.

Mainland China has a lot of growth potential that attracts that capital. With the Stock Connect, many international investors have an easier time investing in mainland Chinese stocks to potentially capture some of the growth.

Given many economists expect China’s economy to grow fairly rapidly over the next ten years, the growth of the Stock Connect to mainland China could continue.

Given Hong Kong valuations are in many instances cheaper than they are in mainland China, growth of the Stock Connect to Hong Kong could also continue.

It should be said that continued growth of the Stock Connect depends on what companies are included, a factor that HKEX doesn’t have control over.

What the stock connect means for HKEX’s dividend

The Stock Connect is important for HKEX’s dividend because the exchange has traditionally paid around 90% of its earnings in the form of a dividend.

If HKEX’s Stock Connect revenues continue to grow rapidly, HKEX’s earnings per share could potentially grow faster and its dividend could potentially grow faster too. As of late August, HKEX shares yield around 1.77%.

Foolish bottom line

Although HKEX’s rally in 2020 is probably more due to leading Chinese companies choosing to list on HKEX rather than listing exclusively on an American exchange, HKEX has another tailwind in the growing Stock Connect business.

If the Stock Connect business continues growing, it’s good news for HKEX’s dividend.

More reading

The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Hong Kong contributor Jay Yao doesn’t own shares in any companies mentioned.

The Motley Fool Hong Kong Limited(www.fool.hk) 2020

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