STOCK MARKET PERFORMANCE IN HONG KONG:

AN EXPLORATORY REVIEW

Abstract

This paper highlights the origin and development of the stock market in Hong Kong. The first formal stock
exchange, the Association of Stockbrokers in Hong Kong, was formed in 1891. However, the activities of the
Stock Exchange had generally been regarded as insignificant until the 1970s. Since the 1980s, there have been
a number of major reforms and some significant developments. These include the unification of four stock
exchanges; the establishment of the Securities and Futures Commission; the closer economic relations with
Mainland China; the merging of the Hong Kong Stock Exchange and the Hong Kong Futures Exchanges to
form the Hong Kong Exchanges and Clearing Limited (HKEx); the launch of the second board (Growth
Enterprise Market); and the demutualisation of the HKEx. The Exchange generally responded positively to
these reforms and developments. As a result, the Hong Kong stock market experienced significant growth in
terms of the market capitalisation ratio, the turnover ratio, and the total value traded ratio. Despite the
impressive growth in various stock market indicators, Hong Kong stock market still faces some challenges,
including the regulatory challenges, as well as some concern over its future viability as a global equity hub.

Key words: Hong Kong, stock market performance

1. Introduction

Stock market development can promote long-term economic development in various ways. By

reducing the cost of mobilising savings, the stock market may facilitate investment, and therefore

promote economic growth (Greenwood and Smith 1997). According to Levine (1991) and

Bencivenga, et al. (1996), the stock market provides market liquidity that enables organisation to the

implement long-term projects, thereby promoting a country’s economic growth. In addition, stock

market development makes financial assets diversifiable, and gives companies easy access to capital

through equity issues. This leads to an improvement in capital allocation, and therefore serves as an

important channel for economic growth (Arestis et al. 2001). In recent years, the stock market in

Hong Kong has become one of the most highly developed markets on the global stage. According to

the World Development Indicators (WDI 2014), Hong Kong had the largest size of stock market in

the world during the period of 1999 to 2012, as measured by the market capitalisation ratio (see

Annexe Table 2). It had the most liquid stock market in the world for six consecutive years after 2007,
in terms of the total value traded ratio (see Annexe Table 3). It was also ranked as the seventh most

liquid market globally in 2012 by turnover ratio (WDI 2014) (see Annexe Table 4). Despite the fast-

growing trends experienced by the Hong Kong stock market, studies on the recent performance of the

market are scant. The aim of this paper, is therefore, to provide an exploratory review of the stock

market performance in Hong Kong, with a special focus on recent decades. The rest of the paper is

structured as follows: section 2 traces the origin of the stock market in Hong Kong, while section 3

outlines the way in which it was reformed and its subsequent development. Section 4 tracks the

growth of the stock market by various indicators. Section 5 highlights the challenges facing the Hong

Kong stock market, and the conclusions are drawn in section 6.

2. The Origin of the Stock Market in Hong Kong

Hong Kong has experienced more than a hundred years of stock market development. Securities were

informally traded in the early nineteenth century. Records of securities trading in Hong Kong date

back to 1866, when the first Companies Ordinance was passed in 1865, which allowed the formation

of companies with limited liability (Schenk 2001). Share trading was started in an organised stock

exchange in the mid-1880s (Schenk 2001; Tsang 2004). The first formal stock exchange, the

Association of Stockbrokers in Hong Kong, was formed in 1891. It was later renamed as the Hong

Kong Stock Exchange in 1914, in which there were no Chinese members at that time. It was not until

1921 that an all-Chinese stock exchange, the Hong Kong Shareholders’ Association was incorporated

(HKEx 2011a). After the Second World War, in 1947, the two exchanges merged to form the new

Hong Kong Stock Exchange, in order to restore the stock market (Schenk 2001).

The activities of the Hong Kong Stock Exchange were generally regarded as insignificant during the

1950s and 1960s. During the 1950s, there were massive inflows of labour, capital and entrepreneurial

skill from Mainland China. These inflows transformed the economy from an entrepôt to an industrial

city (Krause 1988). However, the manufacturing industry was not well represented among public

companies. During the period of 1957 to 1967, only 50 to 70 companies were listed; and less than 25

of them were involved in active trading activities (Uddin et al. 1998). The public companies were

1
dominated by large service sector enterprises. According to Schenk (2001), of the capital raised from

1958 to1966, 43 percent was raised by the public utilities sector and 15 percent by hotel, property and

commercial enterprises. It was thus evident that equity financing through the stock exchanges was not

a major source for the industrialisation of Hong Kong.

Reassurance from Mainland China about the political future of Hong Kong in 1969 boosted the level

of investor confidence (Uddin et al. 1998), and this heralded the era of confidence and growth. The

government’s laissez faire policy, rapid growth of the infrastructure, and the influx of inexpensive and

skilled labour from Mainland China resulted in the financial sector becoming increasingly active. In

the 1970s, the emphasis was on the Euro-Dollar market in a different time zone; and the trend of

international capital flows into Asia boosted financial activities in Hong Kong. In 1978, Hong Kong’s

status as the financial gateway to the east was enhanced, when China embarked on an ambitious open-

door policy (Jao 2003). This decade witnessed an influx of foreign banking and a growing number of

non-bank financial institutions, which sought to share the economic growth miracle of the city

(Schenk 2001). The rapid growth of the Hong Kong economy led to the establishment of three other

stock exchanges. These were the Far East Exchange, the Kam Ngam Stock Exchange and the

Kowloon Stock Exchange, which were established in 1969, 1971 and 1972, respectively (Tsang

2004).

3. Stock Market Development in Hong Kong

3.1 Structural Development on Stock Exchange

The stock market in Hong Kong underwent a series of structural development changes after 1980, in

an effort to elevate it up to international standards. In 1980, a proposed unified stock exchange,

known as the Hong Kong Stock Exchange, was incorporated, in order to avoid destructive

competition among four exchanges. In March 1986, the four exchanges ceased business operations

and the Hong Kong Stock Exchange commenced trading through a computer-assisted system in April

1986 (HKEx 2011a).

2
After the global market crash in 1987, the Securities Review Committee conducted an evaluation of

the Hong Kong stock market. It was found that the listing procedures were being abused and the

settlement system was inefficient. A list of reforms was thus introduced to elevate the Hong Kong

stock market to international standards (Uddin et al. 1998).

One of the major reforms was the establishment of the Securities and Futures Commission in 1989

(HKEx 2011a). With the enactment of the Securities and Futures Commission Ordinance in May

1989, the Securities Commission and the Office of the Commissioner for securities were merged – to

form the Securities and Futures Commission (SFC). Under the ordinance, the SFC is an independent

statutory body that regulates the securities and futures markets in Hong Kong (Arner et al. 2010;

HKEx 2011a). Another reform was the restructuring of the Council of the Hong Kong Stock

Exchange in 1991. Both the number and composition of council members were changed, in order to

accurately reflect the interests of the market participants. The composition of members also changed

from purely individual members to individual, corporate and independent members (Uddin et al.

1998).

In 1999, a comprehensive reform on the market structure of the securities and futures markets was

introduced. Under the reform, five recognised and approved market operators in Hong Kong were

merged under a single holding company called the Hong Kong Exchanges and Clearing Limited

(HKEx). They included the Stock Exchange, the Futures Exchange and three other clearing houses

(HKEx 2013a). Economies of scale were achieved by reducing operation costs. Another major

development in the stock market was the launch of the second board (Growth Enterprise Market) in

the Hong Kong Stock Exchange in November 1999 (HKEx 2011a; 2005a). The Growth Enterprise

Market (GEM) serves to provide start-up companies with a capital formation platform, and an

alternative market to the Main Board.

In 2000, three institutions – the Stock Exchange, the Futures Exchange and the Hong Kong Securities

Clearing Company – were demutualised and merged to become wholly owned subsidiaries of the

3
Hong Kong Exchanges and Clearing Limited (HKEx 2013a). This was one the first stock exchanges

in the world to go public (HKEx 2011a). According to Ghosh (2006), demutualisation provides a

means to address the problems of languishing domestic securities markets, intense international

competition, and to upgrade the infrastructure of an exchange through investments in technology.

To strengthen the linkage of stock market activities between Hong Kong and Mainland China, a joint

venture of the HKEx, the Shanghai Stock Exchange and the Shenzhen Stock Exchange was co-

founded in October 2012. All three companies have equal shareholding in the joint-venture known as

the China Exchange Services Company Limited, whose aim is to develop financial products and

similar related services (HKEx 2014). With the vision of turning the HKEx into a leading global

vertically integrated multi-asset class exchange, in December 2012, the London Metal Exchange was

acquired as the HKEx Group’s first overseas member (HKEx 2014).

3.2 Regulatory Reforms on Stock Exchange

The stock market in Hong Kong has experienced various regulatory reforms since the 1970s. The

stock market crash of 1973 led to the enactment of the Hong Kong government’s first significant

securities legislation – the Securities Ordinance, and the Protection of Investors Ordinance. The two

ordinances became effective in March 1974 to provide more protection for investors (HKEx 2011a).

Under the Securities Ordinance, a Stock Exchange Compensation Fund was established. The

contributions to the fund were paid in proportion to the membership of the four stock exchanges. In

the same year, part VI of the Securities Ordinance and the Securities Regulations became effective.

This required all dealers, investment advisors and their representatives to register with the

Commissioner for Securities (HKEx 1999). In 1973, the Commissioner for Securities, together with

the Securities Commission, was established to regulate and oversee the four stock exchanges.

In 1985, the Securities (Amendment) Ordinance was enacted, in order to strengthen the power of

Commissioner for Securities in monitoring the financial viability of dealers (HKEx 1999). The

legislation, however, was administered on a part-time basis, which failed to provide sufficient

4
resources to properly regulate the rapidly growing and changing securities and futures markets of

Hong Kong. The deficiencies in such a regulatory structure became evident when the market crashed

in 1987.

After the market crash of October 1987, reform was recommended to upgrade the Hong Kong stock

market to international standards. Under the reform, the Securities Commission and the Office of the

Commissioner for securities were merged – to form the Securities and Futures Commission (SFC) in

May 1989 – with the enactment of the Securities and Futures Commission Ordinance. The ordinance

defines the power and purposes of the SFC. Under the ordinance, the SFC is an independent statutory

body whose task is to regulate the securities and futures markets in Hong Kong (Arner et al. 2010).

There was a fundamental shift in financial regulation after the reform in 1999. Before the reform, both

the Securities and Futures Commission (SFC) and the Hong Kong Exchanges and Clearing Limited

(HKEx) were responsible for regulating equity trading in Hong Kong. HKEx is recognised by the

SFC as the operator of the Hong Kong Stock Exchange, and is empowered to set rules to manage its

clearing houses and members. After the reform, the SFC became the major regulator of participants.

The primary responsibility of the SFC is to ensure a transparent and efficient securities market by

laying down legislation and codes. It oversees the operation of HKEx, subsidiaries of HKEx (the

Hong Kong Stock Exchange, the Hong Kong Futures Exchange, and the Hong Kong Securities

Clearing Company), as well as the financial market intermediaries (Uddin et al. 1998).

In 2003, the Hong Kong securities market underwent the most significant regulatory development –

with the enactment of the Securities and Futures Ordinance (SFO) (SFC 2007). The SFO

consolidated and modernised ten existing ordinances governing the securities and futures markets,

which had been enacted during the preceding three decades. Firstly, under the SFO, there is a new

dual-filing regime to ensure timely and accurate disclosure of information by listed companies.

Secondly, the SFO also deals with insider dealing and market manipulation. Any dissemination of

false and misleading information can be pursued either by prosecution or through the Market

5
Misconduct Tribunal. Thirdly, a single licensing system was established to improve cost effectiveness

for licensed market practitioners. Fourthly, an investor compensation scheme was provided to better

protect retail investors (SFC 2007).

Regarding the primary offering of securities, in the past few decades, Hong Kong has gradually

transformed itself from a merit-based to a disclosure-based regulatory system. Under the merit-based

regime, the regulator assumes a direct role between the issuers and investors in protecting investors.

The listing of securities is subject to the regulator’s review of the merits of the investment. This

approach was adopted during the earlier stages of capital market development in Hong Kong, when

the level of investor education was relatively low and the funding raised on the market was fairly

small (Ghosh 2006).

The disclosure-based regulatory regime, however, is based on the principle that the issuers and the

intermediaries of the securities offerings need to provide investors with sufficient and timely

disclosure of relevant information about the company, so that the investor can make an informed

decision. Under this regime, enforcement is delegated to self-regulatory bodies, such as HKEx and

professional associations. The role of the regulator, the SFC, entails the overall enforcement of laws

and regulation to ensure that the investors are well protected and the market participants adhere to the

standards and comply with the laws and regulations (Ghosh 2006).

3.3 Economic Relations with Mainland China

In the 1990s, the stock market in Hong Kong started to benefit from the financial reforms adopted by

Mainland China. The first Hong Kong-incorporated Mainland Chinese enterprise, Hai Hong Holdings

Company, listed its shares through an initial public offering on the Hong Kong Stock Exchange in

July 1992. It was also known as the red chip 1 in the Stock Exchange. In the following year, the first

1
According to the definition of HKEx, red-chips refer to companies with at least 30% shareholding held in aggregate by
Mainland China entities, and or indirectly through companies controlled by them, with Mainland China entities single largest
shareholders. Or if the shareholding of the company held in aggregate directly and / or indirectly by the Mainland China
entities is in the range of 20% to 30% and there is a strong influential presence of the Mainland China-linked individuals on
the company’s board of directors (Lee and Chang 2003:1).

6
Mainland-incorporated enterprise, also known as H-shares 2, Tsingtao Brewery Company, commenced

trading on the Hong Kong Stock Exchange (HKEx 2011a). In the 2000s, the stock market continued

to benefit from Mainland China’s economic and financial reforms, namely the share reform; the

Qualified Foreign Institutional Investor (QFII) and the Qualified Domestic Institutional Investor

(QDII) schemes, and the Closer Economic Partnership Agreement (CEPA).

The Mainland Chinese government introduced share reform in April 2005 in an effort to reduce the

number of ‘State shares’. Hong Kong became the prime fund-raising centre for Mainland Chinese

companies during this period because Mainland China authorities, the China Securities Regulatory

Commission, suspended all fund-raising activities in the domestic markets during the listing of non-

tradable shares in 2005 (SFC 2006). According to the SFC (2006), the total amount of funds raised in

Hong Kong was HK$ 302 billion during 2005, making Hong Kong the fifth largest fund raising

market in the world and the largest in Asia. Of the equity funds raised, HK$159 billion was attributed

to H-share companies, contributing 53 percent of the total funds raised in that year.

The Hong Kong stock market also benefited from the QFII and QDII schemes, which were reform

measures to develop the capital market in Mainland China. These two important policy initiatives

were launched on a pilot scale: QFII in 2002 and QDII in 2006. Under the QFII programme, licensed

foreign investors were allowed to buy and sell Renminbi (RMB) - denominated financial assets in

China. Forming the mirror image with QFII, the QDII scheme allowed licensed domestic institutions

to raise capital from Chinese investors to invest in foreign capital markets (Yao and Wang 2012;

Craig et al. 2013).

Hong Kong benefited from the extraordinarily high concentration of QDII funds despite the QDII

scheme allowing investors to invest in any overseas markets. One of the reasons for this is the so-

called ‘Hong Kong bias’ effect (Yao and Wong, 2012). Due to the geographic proximity and cultural

affinity, the ‘Hong Kong bias’ is an effect similar to the so-called ‘home bias’ effect. The ‘home bias’

2
According to the definition of HKEx, H-share companies refer to companies incorporated in Mainland China and approved
by the China Securities Regulatory Commission for listing in Hong Kong. Shares of these Chinese enterprises are listed on
the Stock Exchange of Hong Kong, subscribed for and traded in Hong Kong dollars, or other foreign currencies. The letter
‘H’ stands for Hong Kong (Lee and Chang 2003:1).

7
effect can be driven by an investor’s perceived information advantage regarding the home market and

a better understanding of the local rule of law. Another reason is the deficiency of the knowledge

required of the QDII fund managers to invest in the foreign capital markets and manage global

portfolios. According to the estimation by Yao and Wang (2012), an average of 50 percent of QDII

funds was allocated to Hong Kong during the period of 2007 to 2011.

Hong Kong has benefited from preferential treatments in the Closer Economic Partnership

Arrangement (CEPA) since 2004. CEPA is a free-trade agreement that offers Hong Kong products,

companies and residents’ preferential access to the Mainland China market (Harrison 2004). The

Hong Kong securities industry gained from various measures, such as the authorisation of HKEx’s

Beijing office, recognition of Hong Kong securities professionals’ qualifications for the purposes of

practising on Mainland China, and the support on the listing of eligible Mainland Chinese companies

in Hong Kong, amongst others (Harrison 2004). In August 2011, a series of policies were established

to promote closer economic cooperation between Mainland China and Hong Kong, and the

internationalisation of RMB. These measures included the following: introducing Mainland Chinese

exchange-traded funds on Hong Kong stocks; developing channels to facilitate the circulation of

RMB between Mainland China and Hong Kong; and the establishment of the RMB Qualified Foreign

Institutional Investor (RQFII) scheme. The RQFII scheme was formalised on December 2013 when

the Mainland Chinese Government and the Hong Kong Government signed Supplement VIII to

Mainland China and Hong Kong Closer Economic Partnership Arrangement (HKEx 2013b).

4 The Growth of the Stock Market in Hong Kong

4.1 The Growth of Hong Kong Stock Market by Key Market Indicators

The Hong Kong stock market is one of the most established in Asia. The Hong Kong Stock Exchange

has been full member of the World Federation of Exchange since 1986. There has been continuous

growth in the HKEx market, as measured by various key indicators, which include the following: the

number of listed companies; the share price index (Hang Seng Index); the number of shares traded;

the value of shares traded; and the number of transactions.

8
In the past two decades, Hong Kong has enjoyed phenomenal growth in the number of companies

listed. In 2013, Hong Kong was ranked among the top ten in the world in terms of the number of

listed companies (WFE 2014) (see Annexe Table 5). The total number of listed companies increased

from 701 in 1999 to 1135 in 2005. The number increased steadily from 1173 in 2006 to 1413 in 2010.

At the end of 2013, a total of 1643 companies were listed on the HKSE.

Regarding the stock market activity, as measured by the share price index, the discussion is based on

the Hang Seng Index (HSI). It indicated volatile positive movement from 1996 to 2013. In 1997, there

was a major political event, namely the transfer of the sovereignty of Hong Kong from the United

Kingdom to China and the establishment of the Hong Kong Special Administrative Region on 1 July.

The transition went smoothly with the economy performed strongly in the real and external sectors

(IMF 1998). In the second half of the year, however, the economy was affected by the Asian financial

crisis and the speculative attacks on the Hong Kong dollar. The HSI – measured at year-end –

decreased from 13 452 points in 1996 to 10 723 in 1997, and further declined to 10 049 points in

1998. After the short-lived recovery on the stock price index in 1999, it decreased from 16 926 points

in 1999 to 9 321 points in 2002 owing to negative factors such as rising oil prices, disappointing

corporate earnings and the global disillusionment with technology stocks (HKEx 2000; 2002).

In 2003, the stock market rebounded distinctly with a 35 percent increase to 12 576 points at the year

end. This was because of the launch of the ‘individual-visit’ scheme for Mainland China tourists, and

the new economic ties with Mainland China under the Closer Economic Partnership Agreement

(CEPA). The increase in HSI reflected the recovery of the Hong Kong economy (HKEx, 2003). The

Hong Kong economy made a strong recovery during the period of 2004 to 2007. It benefited from the

supportive measures of the Mainland government, such as strong inbound tourism, additional benefits

from the CEPA with Mainland China, and the financial reforms adopted by Mainland China. The

upturn of the economy also led to strong performance on the stock market. The HSI increased from

14 230 points to a record high level of 27 813 points in 2007 (HKEx, 2004; 2007).

9
However, owing to the global financial crisis, the stock market suffered a significant downturn in

2008. The HSI declined sharply from its record highest level of 27 813 in 2007 to 14 387 points in

2008, with a 48 percent lower level than that of the previous year (HKEx 2008). The market

recovered quickly from the turmoil caused by the global financial crisis. The HSI reached 21  873

points in 2009, representing a 52 percent annual increase (HKEx 2009). It continued to recover in

2010. Owing to growing uncertainty in the global financial market, the HSI was down by 20 percent

to 18 434 points in 2011 (HKEx 2011). The market rebounded, however, and showed healthy signs of

recovery in 2012 and 2013. The HSI closed the year at 23 306 points in 2013 (HKEx 2012; 2013).

Figure 1 shows the development of the Hang Seng Index.

Figure 1: The development of Hang Seng Index, 1996-2013

30000

25000

20000

15000

10000

5000

0
1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Source: HKEx fact book, various issues; IMF 1998.

Along with the growing number of listed companies in the Hong Kong stock market, three other key

indicators, namely the number of shares traded, the value of shares traded, and the number of

transactions, also increased significantly. The number of shares grew dramatically from 1 394 billion

in 1999 to 34 440 billion shares in 2013. The value of shares traded increased markedly from HK$1

920 billion in 1999 to HK$15 265 billion in 2013. And the number of transactions surged from 23 063

10
257 in 1999 to 229 470 737 in 2013. It is worth noting that the growth trends of the number of shares

traded, the value of shares traded, and the number of transactions all show similar volatility patterns.

Table 1 shows the number of shares traded, the value of shares traded, the number of transactions, and

their respective annual percentage changes during the period of 1999 to 2013.

Table 1: The number of share traded, the value of share traded, the number of transactions, and their
respective annual percentage changes during the period of 1999-2013
End Number of Value of Shares Traded Number of Transactions
of Shares Traded
Period
Total Annual Total Annual Total Annual %
(Billion) % Change (HK$ % Change (Deals) Change
billion)
1999 1394 na 1920 na 23063257 na
2000 2355 69% 3132 63% 36871325 60%
2001 1532 -35% 1990 -36% 24123635 -35%
2002 1612 5% 1643 -17% 20536648 -15%
2003 2410 50% 2584 57% 28803397 40%
2004 4024 67% 3974 54% 37243835 29%
2005 5780 44% 4520 14% 36956081 -1%
2006 9481 64% 8376 85% 64077041 73%
2007 23163 144% 21666 159% 151585525 137%
2008 27104 17% 17653 -19% 141394810 -7%
2009 24794 -9% 15515 -12% 177641518 26%
2010 34991 41% 17210 11% 193940737 9%
2011 39907 14% 17154 0% 214853621 11%
2012 33968 -15% 13301 -22% 191608513 -11%
2013 34440 1% 15265 15% 229470737 20%
Source: HKEx fact book, various issues; annual percentage changes calculated by authors.

4.2. The Growth of the Hong Kong Stock Market in terms of its Size and Liquidity
In the literature, certain financial indicators have been suggested to reflect the multifaceted concept of

the stock market development. They are the market capitalisation ratio, the total value of shares traded

ratio, and the turnover ratio. The first indicator measures the size of the stock market, while the

second and the third measure the liquidity of the stock market (Levine and Zervos 1996; 1998).

11
4.2.1 The size of the Stock Market in Hong Kong

Market capitalisation measures the absolute size of a stock market. Market capitalisation in Hong

Kong increased dramatically from US$608 billion in 1999 to US$3101 billion in 2013, with an

average of over 11 percent growth on an annual basis. According to the World Federation of

Exchange, the Hong Kong stock market was the thirteenth largest in the world in 1999 in terms of

stock market capitalisation. The ranking continued to rise from the ninth in 2000 to the eighth in 2005.

In 2013, the Hong Kong stock market was established as the fifth-largest stock market in the world,

and the second largest in Asia (WFE 2014). When compared with other Asian stock markets in terms

of stock market capitalisation, Japan is the largest in the region, with 1.47 times of the size of Hong

Kong in 2013. In the same year, the stock market capitalisation of the Shanghai Stock Exchange,

Shenzhen Stock Exchange and Singapore Exchange were 0.81, 0.47 and 0.24 respectively of the size

of Hong Kong (See Annexe Table 1).

One of the major reasons for the impressive growth in market capitalisation is that Hong Kong has

been established as a preferred centre for initial public offerings (IPOs) internationally. The amount

raised by IPOs increased significantly from HK$17 billion in 1999 to the highest level of 449 billion

in 2010. In 2013, HK$169 billion was raised through IPOs (HKEx 2013b). Figure 2 shows the equity

fund raised in the Hong Kong stock market through IPOs and the secondary market during the period

of 1999 to 2013.

Figure 2: Equity fund raised in Hong Kong stock market through IPOs and the secondary market,
during the period of 1999-2013

12
 1000

900

800

700

600
HK$ Billion

500
Secondary Market
400 IPOs

300

200

100

0
99 0 00 001 002 0 03 0 04 005 006 0 07 008 0 09 010 0 11 012 0 13
19 2 2 2 2 2 2 2 2 2 2 2 2 2 2

Source: HKEx fact book 2013.

In recent years, the growth of Hong Kong, as an IPO fund-raising centre, has been largely driven by

the listing of Mainland Chinese companies. It has become a preferred place for overseas listings for

Mainland Chinese enterprises largely because Hong Kong offers a number of advantages for these

enterprises. These include the following: easy access to foreign exchange; a broader investor base;

international visibility; a sound legal and regulatory environment; a deep market with a wider product

range, and liquidity provided by domestic and international institutional and retail investors; and

access to the rest of the world, while benefiting from its proximity to Mainland China (Lee and Chang

2003). Because of these advantages, a growing number of Mainland Chinese companies sought listing

in Hong Kong. The average percentage of funds raised by Mainland enterprises’ H-shares and red

chip stocks accounted for 59% of the total funds raised through IPOs during the period of 1999 to

2013 (HKEx various issues). Figure 3 shows the breakdown of the equity funds raised through IPOs

during the period of 1999 to 2013.

Figure 3: Break down of the equity funds raised through IPOs during the period of 1999 to 2013

13
 100%

90%

80%

70%

60%
Funds raised by others
50%
Funds raised by
40% red chip stocks
Funds raised by Mainland
30% enterprises H shares

20%

10%

0%
99 0 00 001 002 003 004 0 05 0 06 007 008 009 010 0 11 0 12 0 13
19 2 2 2 2 2 2 2 2 2 2 2 2 2 2

Source: Authors’ own calculation based on HKEx fact book, various issues.

Hong Kong has also become an international fund-raising centre due to the benefits of its international

exposure, and its understanding of and strong linkage with Mainland China. According to Ernst and

Young (2013), the Hong Kong Stock Exchange was the second largest IPO fund-raising centre in the

world in 2013, just behind the New York Stock Exchange.

The size of the stock market in Hong Kong can also be measured by market capitalisation as a

percentage of the gross domestic product (GDP), that is, the market capitalisation ratio. The market

capitalisation ratio shows an increasing trend, with volatile movements from 1989 to 2012. It

increased significantly from 113 percent in 1989 to the first peak of 320 percent in 1993. Owing to the

Asian financial crisis, it fluctuated and reached its trough of 203 percent in 1998. It subsequently

rebounded to 367 percent in 1999, and gradually reached the highest level of 606 percent in 2008.

Owing to the global financial crisis, in 2009, it declined to 428 percent, and remained at a relatively

low level of 422 percent in 2012 (WDI 2014). Figure 4 shows the market capitalisation ratio in Hong

Kong during the period of 1989 to 2012.

Figure 4: Market capitalisation ratio in Hong Kong, during the period of 1989-2012

14
 700

600

500

400
Percentage

300

200

100

0
89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12
19 1 9 1 9 1 9 19 1 9 1 9 19 19 19 1 9 20 20 20 20 20 20 20 20 20 20 20 20 20

Source: World Development Indicators 2014.

In the past two decades, Hong Kong has experienced impressive performance internationally in terms

of its market capitalisation ratio. According to the World Development Indicators (WDI), in 1989,

Hong Kong had the fourth-highest market capitalisation ratio in the world. The ranking continued to

increase from the third in 1990 to the second in 1991. It was ranked as the first in the world during the

period of 1999 to 2012 (WDI 2014) (see Annexe Table 2). The high market capitalisation ratio was

reached mainly for the following two reasons: the listing of the Mainland enterprises in Hong Kong;

and the expansion of Hong Kong companies into overseas countries (Lee and Poon 2005). The first

reason means that the Hong Kong stock market effectively serves two economies, those of Hong

Kong and Mainland China. In 2013, the Mainland Chinese enterprises accounted for 41 percent of the

total market capitalisation (HKEx 2013b). Another major reason for such a high ratio is that many

listed companies in Hong Kong have substantial investment and businesses in overseas countries. The

sources of earning of these enterprises are outside Hong Kong, which does not necessarily have a

direct relationship with the GDP in Hong Kong.

4.2.2. The Liquidity of the Stock Market in Hong Kong

The liquidity of the stock market refers to the ease with which agents can buy and sell assets in a

financial market at posted prices (Levine and Zervos 1996). Two indicators are used to measure the

15
liquidity of the stock market, namely, the turnover ratio and the total value traded ratio. The first

indicator equals the ratio of the total value of traded shares on the stock exchange divided by market

capitalisation. This is frequently referred to as the turnover ratio. It measures the value of equity

transactions relative to the size of the equity market. The second indicator is the ratio of the total value

of the shares traded on the stock exchange divided by GDP. This measures the degree of trading

relative to the size of the economy (Levine and Zervos 1996; 1998).

According to the World Development Indicators (2014), Hong Kong had the most liquid stock market

in the world for six consecutive years after 2007, as measured by the total value traded ratio (see

Annexe Table 3). It was also ranked as the seventh most liquid market globally in 2012 by the

turnover ratio (WDI 2014) (see Annexe Table 4). Based on the measurements of the total value traded

ratio and the turnover ratio, one could argue that Hong Kong has an extremely active stock market –

with low transaction costs.

From 1989 to 2006, the turnover ratio fluctuated in the range of 35 percent to 61 percent. The first

peak occurred in 1997, when the ratio increased to 113 percent. Owing to the Asian financial crisis, it

then decreased sharply to 53 percent in 1998. Since 2007, the Hong Kong stock market has become

increasingly liquid, as measured by the turnover ratio. It started to increase from 89 percent in 2007 to

its highest level of 160 percent in 2010. It gradually declined to 123 percent in 2012 (WDI 2014).

It is worth noting that the development of the total value traded ratio exhibits a similar growth pattern

to the turnover ratio. The ratio increased steadily from 50 percent in 1989 to 104 percent in 1996. It

reached its first peak level of 276 percent in 1997. Then, owing to the Asian financial crisis, the ratio

fell to 122 percent. It then started to increase significantly from 209 percent in 2006 to 433 percent in

2007 and reached its highest level of 742 percent in 2008. The ratio declined gradually to 468 percent

in 2012. Figure 5 demonstrates the turnover ratio and the total value traded ratio during the period of

1989 to 2012.

16
Figure 5: The turnover ratio and the total value traded ratio in Hong Kong, for the period of 1999-
2013

Source: WDI 2014.

5. Challenges Facing Stock Market Development in Hong Kong

Despite the impressive growth in the various stock market indicators, as mentioned in the previous

section, Hong Kong stock market does face challenges. The first one is regulatory weaknesses in the

financial system in the context of the relationship between regulators and the supervision of activities

of a cross-sectoral nature. To improve co-ordination in the area of banking, securities, insurance and

pension business, a Cross-Market Surveillance Committee, comprising representatives of the four

regulators3, was established to exchange market information, formulate appropriate action and

facilitate the supervision of financial groups. In addition to the committee, various agencies and these

self-regulatory organisations have entered into a series of Memoranda of Understanding (MoUs) to

define the operational framework for co-operation, communication and co-ordination. The presence of

various MoUs has revealed regulatory gaps, overlapping in the roles of each of the regulators, and

whether their roles are inadequately delineated in the context of financial market regulations (Arner et

al. 2010).

3
The four principal regulators are the Hong Kong Monetary Authority, the Office of the Commissioner of
Insurance, the Mandatory Provident Fund Scheme Authority, and the Securities and Futures Commission.

17
The second challenge facing the Hong Kong stock market is the future viability of Hong Kong as a

global equity hub. Since the establishment of Shanghai Stock Exchange (SSE) in 1990, it has

developed significantly to become the fifth largest stock market in the world based on stock market

capitalisation (see Annexe Table 1). In March 2009, China’s State Council announced the objective of

developing Shanghai into a major international financial centre by the year 2020 (Shanghai Daily

2009). The news, together with the recent development of Shanghai, triggered concerns in Hong Kong

that Shanghai might overtake Hong Kong as a pre-eminent financial centre in China (Lai 2012).

However, the study by Lai (2012) reveals that Shanghai and Hong Kong can be viewed as parallel

markets with functionally different but relationally interdependent roles. Both stock exchanges have

different advantages that attract different types of companies with their specific stock market

characteristics. The Shanghai Stock Exchange (SSE) and Hong Kong Stock Exchange (HKSE)

therefore present different opportunities and advantages for the Mainland Chinese enterprises seeking

public listing according to their regulatory environments, market characteristics and the objectives of

the companies. The complementarity roles of the two stock markets are further evident in the dual

listing strategy of Chinese companies in both SSE and HKSE. By first listing on the SSE, they can

gain experience in public listing, improve corporate governance, information disclosure and

accounting standards and raise capital from domestic investors. This would enable them to meet

higher regulatory standards and attract international investor through HKSE (Lai 2012). Similarly,

McCauley and Chan (2009) argue that the Hong Kong status as an international financial centre

would be strengthened when Shanghai returns as a competitive centre. They further argue that the

development of an onshore international financial centre, such as Shanghai, could promote the

development of a nearby offshore international financial centre, like Hong Kong.

The future viability of Hong Kong as a global equity hub has also been challenged by the decision of

Alibaba Group Holding Limited’s listing on the New York Stock Exchange. This was a setback for

18
the Hong Kong stock exchange. On one hand, the Exchange refused to grant the company an

exemption to the listing rules of ‘one shareholder, one vote’, could be justified on legislative grounds.

If the rules could be changed to suit one particular company, then the status as a global financial

centre could also be eroded. On the other hand, the HKEx and the SFC could consider changing the

listing rules on the Growth Enterprise Market to accommodate the companies, especially the

technology companies, to list with special shareholding structures (Mulrenan 2014). It remains a

challenge for the HKEx and SFC to jointly reach a compromise to reform the listing regime so that

Hong Kong can continue to be an attractive market in which local and overseas companies can list.

6. Conclusion

In this paper, we have discussed the origin of the Hong Kong Stock Exchange, the reforms undertaken

to develop the stock market and the growth of the Hong Kong stock market according to various

indicators. The Hong Kong stock exchange consists of a main board and a second board, known as the

Growth Enterprise Market. The Hong Kong stock market is well developed by international standards,

and it is one of the largest stock markets in the world. In order to foster stock market development in

Hong Kong, a number of reforms have been undertaken since 1980s. These include the following: the

unification of four stock exchanges; the establishment of a Securities and Futures Commission; the

merging of the Hong Kong Stock Exchange, and the Hong Kong Futures Exchanges – to form the

Hong Kong Exchange and Clearing Limited (HKEx), the launch of the second board (Growth

Enterprise Market), and the demutualisation of the HKEx. The market has largely responded

positively to these reforms. In the 1990s, the stock market in Hong Kong started to benefit from the

financial reforms adopted by Mainland China. As a result, the Hong Kong stock market has developed

significantly in terms of the key market indicators, such as the number of listed companies, the share

price index (Hang Seng Index), the number of shares traded, the value of the shares traded; and the

number of transactions. The paper has also examined the size and liquidity of the stock market in

Hong Kong during the period of 1989 to 2012. This shows that Hong Kong has experienced

significant growth in terms of the market capitalisation ratio, the turnover ratio, and the total value

19
traded ratio. It was found that Hong Kong had the largest stock market in the world in 2012, as

measured by the stock market capitalisation ratio. It also had the most liquid market in terms of the

total traded ratio in 2012. Despite the impressive growth in the various stock market indicators, some

challenges still face the Hong Kong stock market in the context of the relationship between the

regulators and the supervision of activities of a cross-sectoral nature. Another challenge that the Hong

Kong stock market needs to overcome is the future viability of Hong Kong as a global equity hub.

20
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22
Annexe Table 1: Domestic market capitalisation in USD ('000 000) on selected exchanges

Year NYSE NASDA Japan Euronext Hong Shanghai Shenzhen Singapor

Q Exchang Kong e
OMX e Exchange SE SE Exchange
Group -
Tokyo
1999 11440767 5204620 4455348 NA 608159 NA NA 192983
2000 11442383 3578593 3157222 NA 623398 NA NA 152826
2001 11026518 2896856 2264528 1843529 506073 NA NA 115689
2002 9015167 1994494 2069299 1538654 463055 NA NA 99807
2003 11328953 2844193 2953098 2076410 714597 360106 152872 148503
2004 12707578 3532912 3557674 2441261 861463 314316 133405 217495
2005 13310592 3603985 4572901 2706803 1054999 286190 115662 257340
2006 15421168 3865004 4614069 3708150 1714953 917508 227947 384286
2007 15650833 4013650 4330922 4222680 2654416 3694348 784519 539177
2008 9208934 2248976 3115804 2101746 1328768 1425354 353430 264974
2009 11837793 3239492 3306082 2869393 2305143 2704778 868374 481247
2010 13394082 3889370 3827774 2930072 2711316 2716470 1311370 647226
2011 11795575 3845132 3325388 2446767 2258035 2357423 1054685 598273
2012 14085944 4582389 3478832 2832189 2831946 2547204 1150172 765078
2013 17949884 6084970 4543169 3583900 3100777 2496990 1452154 744413
Source: WFE 2014.

Annexe Table 2: Market capitalisation ratio on all the exchanges of selected countries

Year United United Japan European Hong Kong SAR,

States Kingdom Union China
1999 172 193 103 100 367
2000 147 173 67 100 363
2001 130 146 54 80 299
2002 101 115 53 61 278
2003 124 131 71 69 342
2004 133 127 79 71 393
2005 130 132 104 74 382
2006 140 153 108 92 463
2007 138 135 102 92 549
2008 80 69 66 41 606
2009 105 127 67 60 428
2010 115 135 75 65 472
2011 101 118 60 53 358
2012 115 123 62 62 422
Source: WDI 2014.

23
 Annexe Table 3: Total value traded ratio on all the exchanges of selected countries

Year United States United Kingdom European Japan Hong Kong SAR,
Union China
1999 192 91 60 42 149
2000 310 123 87 57 220
2001 273 125 87 44 116
2002 231 118 71 40 127
2003 135 118 63 53 151
2004 158 167 78 74 167
2005 164 180 89 109 162
2006 240 171 105 144 209
2007 294 361 158 149 433
2008 435 241 103 121 742
2009 324 154 59 83 696
2010 204 131 58 78 699
2011 198 121 58 70 624
2012 132 101 48 61 468
Source: WDI 2014.

Annexe Table 4: Turnover ratio on all the exchanges of selected countries

Year United States United Kingdom European Union Japan Hong Kong SAR,
China
1999 123 52 68 53 52
2000 201 67 83 70 61
2001 201 79 97 68 35
2002 203 95 106 72 43
2003 123 102 107 88 48
2004 127 141 118 102 46
2005 129 142 125 119 43
2006 183 124 130 132 51
2007 216 270 184 142 89
2008 404 227 163 153 131
2009 349 146 111 127 133
2010 189 102 92 114 160
2011 188 99 103 109 158
2012 125 84 81 100 123
Source: WDI 2014.

Annexe Table 5: Number of listed company on selected exchanges

24
 NASDAQ Japan Exchange Hong Kong
Year NYSE OMX Euronext Group - Tokyo Exchange
199
9 2592 4829 NA 1932 701
200
0 2468 4726 NA 2096 790
200
1 2400 4128 1345 2141 867
200
2 2366 3649 1492 2153 978
200
3 2308 3294 1392 2206 1037
200
4 2293 3229 1333 2306 1096
200
5 2270 3164 966 2351 1135
200
6 2280 3133 954 2416 1173
200
7 2273 3069 1043 2414 1241
200
8 1963 3023 1002 2390 1261
200
9 2327 2852 1160 2335 1319
201
0 2317 2778 1135 2293 1413
201
1 2308 2680 1112 2291 1496
201
2 2339 2577 1073 2304 1547
201
3 2371 2637 1062 3419 1643
Source: WFE 2014.

25