What to do when the market is drifting down to six-year lows? Start an index? Why not? That is what China's two exchanges did last month, launching their Shanghai Shenzhen 300 Index, joining an investment fund area currently dominated by the Xinhua Finance / FTSE joint venture, Standard & Poors CITIC, and Dow Jones.
So far, the only thing China's new exchange-run cross-index has generated is nervousness among traditional third-party index providers – and that much was surely expected.
"We have internal concerns," says Glenn Doody, vice president of index services at Standard & Poors in Hong Kong. He reckons everyone in the index business has concerns – about how careful China's exchange operators will be about putting up firewalls to ensure the new index is given no special advantages to their detriment.
"Competition gets only one chance," Doody warns. If they flub it, the people who get hurt will be the investors. Zhu Shan, managing director of Xinhua FTSE, which offers a range of tailored index products, says he doubts a new general index has much to offer institutional investors who need tools to benchmark a variety of investment styles, be that value-growth or something else.
He also suspects investors will worry about the way the cross index will be run – which is on a rotational basis, with Shanghai and Shenzhen exchanges taking turns running it in half-year cycles. "Investors may well wonder about quality and coordination issues," Zhu says.
The received wisdom was that the new cross index could prelude the opening of a derivatives market, a natural hedging counterpoint in developed markets, and usher in new era where regulators would permit short-selling and other tricks of the trade.
But Zhu contends the arrival of the index does not signal these things at all – except in the sense that regulators have put in place one more building block among many still needed. "There are many fundamental issues that have to be addressed [first]," he says. "China has historically moved very prudently, step by step."
No one has yet figured out how to deal with the huge overhang of government-held shares of listed SOEs. Investors, retail investors especially, are wary for fear their investments will be diluted when the government dumps the mountain of stock on the market.
IPO pricing, which used to be simply set by fief regardless of where the market might stand on valuations, is now done by market consensus, or a variation of it. And minorities have been given some extra squeak. But the impact of these steps is still far from clear in Zhu's estimation.
S&P has been doing China indices longer than the China exchanges have. "We have been doing full market benchmarks as well as product-based indices much longer than the Shanghai Shenzhen exchanges," S&P's Doody says. "What this [new index] really does is introduce another competitor into the market place."
Any problem with the exchanges owning it?
"It's only going to be a problem if the regulator and the exchanges make it a problem," he answers. "If this business is not run at arms' length and competitors are not given a chance to compete, then at some point, the exchanges will control the listings, they will control the indices, they will control the listed products and they will set the fees wherever they want them to be – and there will be no competition."
"If a client wants a listed product based on a Xinhua FTSE index or an S&P CITIC index or any other index, exchanges should have an obligation, given they own the only listings game in town, to allow those products to be listed."
Does the regulator understand that? "I'm not sure, to be honest. There hasn't been a signal so far, from either exchanges or the regulator that it is going to be an open and competitive game."
And so far the hints have been discouraging: The firm has been trying to get a listed product based on the S&P CITIC indices going for almost a year now. "I'm not going to point any fingers, but I can say it is a challenge to get that to happen."