The relationship between the RMB exchange rate and Hong Kong stocks has been discussed many times before. However, recently, when the RMB has been appreciating rapidly, the performance of Hong Kong stocks has been relatively mediocre, and there have even been significant sell-offs on multiple trading days (see Figure 1 below), which goes against the intuition of many people. So, let's delve deeper into this issue. After reading this article, you will clearly understand the transmission logic between exchange rates and Hong Kong stocks.
Many investors firmly believe in the logic that an appreciation of the RMB will lead to a rise in Hong Kong stocks, including many professional investors I know. However, there is no direct relationship between exchange rates and the performance of Hong Kong stocks. The transmission logic is: strong economic growth in Greater China leads to RMB appreciation + good performance of Hong Kong stocks, rather than RMB appreciation equals good performance of Hong Kong stocks. The reason we have seen Hong Kong stocks perform well during periods of RMB appreciation in the past ultimately comes down to both being results of a strong economy in Greater China. Exchange rates and stock markets do not necessarily have such a direct relationship.
Let’s continue by looking at the chart above (Figure 1). The blue line represents the Hang Seng Index trend, while the red line shows the offshore RMB trend. From the chart, it is evident that most of the time, there is a very strong correlation between the two—when the RMB appreciates, Hong Kong stocks rise, and when the RMB weakens, Hong Kong stocks fall.
This is an important reason why many investors firmly believe in the relationship between exchange rates and Hong Kong stocks. However, upon closer inspection, we can see two very obvious divergences in the chart: the first occurred from 2016 to the first half of 2017...