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Abstract
Using daily equity price data, we find that most of the 14 Chinese listed banks are highly exposed to the RMB/USD exchange rate. By breaking our data period into two subperiods around the financial crisis, we find that Chinese banks were even more exposed in the post-crisis period, despite the fact that the renminbi reverted to a de facto peg against the dollar in September 2008. This cannot be explained by direct foreign exchange exposure, and we argue that China's banks are subject to substantial indirect exposure as a result of concerns about their loan books in the face of anticipated further appreciation of the RMB. We also find that the exchange rate sensitivities of the twin shares of dual-listed Chinese banks (those listed in China and Hong Kong) are very different – not only in magnitude but also in sign. We discuss two possible explanations for this: investor sentiment and ‘hot money’ inflows into China.
Notes
1. Research on the market risks faced by financial institutions has been dominated by studies of interest rate risk (Flannery and James Citation1984, Madura and Zarruk Citation1995, Hirtle Citation1997, Elyasiani and Manser Citation1998, Fraser et al. Citation2002).
2. Data from the China Banking Regulatory Commission (www.cbrc.gov.cn).
3. B-shares were available only to foreign investors until February 2001, when the rules were changed to allow Chinese citizens to trade them if they have the required foreign currency – US dollars for Shanghai B-shares and Hong Kong dollars for Shenzhen B-shares.
4. Wang (Citation2005) and Lee and Poon (2005) suggest that with the increasing integration between the Chinese market and the Hong Kong market, and the deregulation of overseas investments in China, the A- and H-shares are on a course of price convergence. Nevertheless, the price discount phenomenon persists. Of the 61 dual-listed companies (those that have both A shares in the China mainland market and H shares in the Hong Kong market) at the end of 2009, 45 have an A- versus H-share price spread of more than 20%.
5. China Minsheng Bank (MSB) went public in Hong Kong on 26 November 2009 and became the seventh dual-listed bank. However, we treat MSB as a locally listed bank because of the short time period since it issued H-shares.
6. We also remove for each bank the outliers in the daily equity price data, which may arise from sudden changes in market sentiment or some special events of the banks (such as a sharp rise in prices in the first trading day after IPO), to avoid biased results caused by these outliers. As such, observations with an excess daily return lower than the first percentile or higher than the 99th percentile of the data for each bank are excluded from the sample.
7. We also used alternative risk-free rate proxies: the Chinese interbank offered rate and the three-month and one-year savings deposit rates. The results are little changed when using these alternative proxies.
8. We also used other proxies for the Hong Kong short-term risk-free interest rate: three-month and nine-month HIBOR, and the one-year exchange fund note rate, but the results remain similar.
9. We also considered Chinese government bonds with different maturity (10-year and 20-year). However, the data for 20-year Chinese gonvernment bonds are not available for our sample period. The result of using 10-year Chinese government bonds remain similar to that of using the five-year one. The same holds for IHK,t .
10. We first calculate the correlation coefficient between the excess return of the China and Hong Kong markets, which is 0.24. Then, to be more rigorous, we follow the method proposed by Klein and Nakamura (Citation1962) and find that there is no significant multicollinearity between 
and 
. In fact, the multicollinearities among other independent variables are examined using the same method, and no significant multicollinearity can be found either.
11. A formal definition of exchange rate gains and losses can be found in the notes to .
12. For BOC, disclosed information includes the exposures to the US dollar as well as the euro, the yen and the pound; for the others, however, data are available only for US dollar exposure. We report only US dollar exposures.
13. Data from the GTA database (China) and General Administration of Customs of the People's Republic of China, www.ChinaCustomsStat.com.
14. See, for example, Dyer (Citation2008b).
15. See The Economist, 25 Sep 2010b.
16. See Peaple (2010).
17. See Min-Chan (2009).
18. The Chinese government prohibits selling of stocks held by the controlling shareholders for a given period after a company goes public.
19. See, for example, Cheng and Batson (Citation2008), Pettis and Wright (Citation2008) and Dyer (Citation2008a).
20. Zheng Tuo, a fund manager at the Fortis Haitong Investment Management Company in Shanghai, says that ‘hot money’ can be invested in one of only two markets: the real-estate market and equity market (Areddy Citation2006).
21. See, for example, Dyer (Citation2009) and Emerging Markets Monitor, 19 Jan 2009.
22. See Martin and Morrison (2008).
23. Data from Bloomberg database.
24. See The Economist, 28 June 2008.
25. See Wright (2008).
26. See Chen and Hendry (2010).
27. Chinese banks can currently hedge against the risk of exchange rate changes through either RMB trade settlement or forward contracts (Liu Citation2010).
28. The State Administration of Foreign Exchange (SAFE), China's currency regulator, may in the near future allow RMB options trading to help banks and companies hedge against foreign exchange risk (Liu Citation2010).