Significant progress has been made in the 4th China-US Strategic and Economic Dialogue. Several policy agreements will have investment implications related to China’s financial reform and trade liberalization:

1) China will open up the financial sector further by allowing increased foreign ownership. The ceiling of foreign ownership in JV securities brokers and JV futures brokers is raised from 33% to 49%. This will enable foreign JV partners in China’s financial sector to gain more control over corporate management. The ownership ceiling for asset management companies were already increased to 49% in 2004 while foreign ownership of JV banks are still limited to 20%.

We view the opening up of A-share market (announced recently via the increase in QFII quota) and the domestic securities industry as positive for A-shares as it should result in stronger inflows of foreign portfolio investments and via more JVs. Hong Kong listed Chinese brokers like CITICS security should benefit from QFII inflow.

2) The US administration will in turn facilitate the expansion of Chinese banks, securities houses and asset management firms in the US market. The existing applications to expand in U.S. from ICBC, BoC and ABC will be processed in a timely manner. The global expansion of Chinese banks should accelerate as a result.

3) China will raise the cash dividend payout ratio of SOEs of central and provincial governments. The dividend payment to government will be included in the government budget to fund pension and healthcare expenditure. This will likely reduce the investment tendency of SOEs and boost consumption.

In 2010 the dividend payout ratio was 28% for all A-share listed companies, with total cash dividends at RMB500bn. Currently A- share (CSI300) dividend yield is 1.5% vs 3.7% of H shares. The room to increase dividend payout for A share companies is still substantial. We believe cash rich SOEs with low growth will likely increase dividend payment in the near future. Telecom companies, for example, are potential candidates.

4) The US encourages China to pursue financial reforms including interest rate liberalization. China promises steady progress on interest rate liberalization to improve efficiency of resource allocation, but considers it as a gradual process and gives no time table. We believe that lending rate liberalization will likely kick off towards the end of this year or early next year, while deposit rate deregulation will likely start after the establishment of the deposit insurance scheme next year. The final impact on NIM will unlikely to be dramatic but in the near term the prospects of interest rate deregulation will likely to be an negative overhang on sentiment on bank stocks.

5) RMB exchange rate is less of an issue this time and the US applauded China’s effort to reform the exchange rate. China reiterated the same position that its current surplus has reduced to 2-3% of GDP and RMB exchange rate will become more market driven. The US will support the inclusion of the RMB in the SDR once it becomes convertible. We see this point to serve as an additional incentive for China to speed up its reform towards capital account liberalization.

6) For the first time, the US promised to reduce export restrictions on high-tech products to China. This will likely reduce China-US trade imbalance and further reduce the overall trade surplus for China. U.S. high tech companies will benefit from the new opportunities to export to China.

7) China and the US announced collaboration on several major projects on energy efficiency, low carbon technologies and environment protection. This will likely benefit the green energy industry like wind and solar sectors.

Overall, we think Chinese brokers and the A share market will benefit from the opening up of the domestic capital markets and the increase in dividend payout from cash rich SOEs. The more frequent government talks on interest rate liberalization will likely keep some investors nervous on banks in the short term.

• [Editor:editor]