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H shares can be a good option for forex reserve

By Yi Xianrong (China Daily)
Updated: 2008-11-28 14:32

As the world strives to survive the financial tsunami, how China uses its large amount of foreign reserves has been a focus of attention.

By September, China had owned $585 billion in US government bonds, becoming the largest creditor of the world's largest economy, according to the latest statistics from the Ministry of Finance. It bought new US national debts every month during this year's first three quarters.

In September alone, China bought an additional $43.6 billion of US treasury bonds, twice as much as that it held in the previous month.

As the international financial turmoil still evolves, the US government bonds seem to be a low-risk option for the world's largest developing country to invest its foreign reserves.

Since the outbreak of the US subprime crisis, the world's turbulent financial market has put China's more than $1.9-trillion foreign reserves at a high financial risk.

Some domestic scholars and economists have become increasingly vocal arguing that the country should not hold such a large amount of US government bonds to avoid any possibility that our people may pay for a subprime crisis in the US.

There surely are some reasons for such worries. But the question is: can China find a safer investment destination for its foreign reserves in the current international financial market with a lower risk but a higher return? The answer is no.

On the contrary, it turned out that with a large portion of its foreign reserve flowing to low-risk US government bonds, China has successfully minimized the impacts of the ongoing financial crisis upon its own financial structure and the economy as a whole.

It is true that the unstable international financial situations do expose China's investment in the US, either its dollar-holding foreign reserves or American equity products bought by its Chinese financial bodies, to a certain risk of wealth shrinkage.

Some propose the country shift its enormous foreign reserve investment to Europe to evade possible financial risks caused by its excessive concentration in the US market. Then raises another problem: in which areas can the country invest in the European markets and whether the European continent can remain immune to the catastrophic financial sandstorm that first broke out in the world's most powerful economy?

As a matter of fact, another ideal destination for China to use its foreign reserves is back in Hong Kong's H-share market. After experiencing the latest round of price decline, a number of stocks in the H-share market have already had no space for a further tumble. Take China Southern Airlines, China Eastern Airlines, and China Aluminum. All the shares of these enterprises are now at a reasonable price level after suffering a steep fall in recent months.

That has not only dealt a severe blow to the confidence of overseas investors in the H-share market, but has also deprived these Hong Kong-listed enterprises of a further financing function.

If the central government uses its strong capital reservoir to buy these enterprises' stocks, the dented investor confidence in them would be substantively elevated, which would help regain their lost financing functions. As leading enterprises in relevant domestic industries, these companies have long served as the backbone and pillar of our national economy.

Not only listed in Hong Kong, these firms are also listed in Shanghai's A-share bourse and act as the market's weighted shares. Shifting part of the country's foreign reserves to H-shares is also expected to restore investor confidence in the whole domestic stock market if it performs well in more mature Hong Kong capital market. That will influence to some degree the trend of stocks in the A-share market.

The flow of the country's foreign reserve to H shares will also help investors regain confidence in Hong Kong's stock market.

Over the past year, stock prices in the region have experienced drastic fluctuations, with its Hang Seng index falling to a little more than 10,000 points from last year's highest 31,000, or down by more than 60 percent. Considering domestic H-shares play an influential role in Hong Kong's stock market, the flow of the country's foreign reserves to H-shares will surely help retrieve investor confidence in Hang Seng's H-shares.

It is also because we have a better knowledge about the market compared with other risky or uncertain foreign stock markets.

It also means injecting new vitality into the future of the country's economy. Also, given its large scale, the flow of part of the country's huge foreign reserve to H-shares will not cause excessive speculations under the current well-developed financial monitoring system in Hong Kong.

The author is a researcher with the Institute of Finance and Banking under the Chinese Academy of Social Sciences.