Talking Point

A new place to punt?

Some believe new bourse is China’s answer to Nasdaq. Perhaps not

Not risky enough: Shenzhen launches second exchange, the ChiNext

They played the Superman theme tune at their launch ceremony last week, so regulators at China’s newest stock exchange must be thinking that something rather uplifting is about to happen.

Or perhaps it’s more a case that they’ll soon be in need of superhero assistance.

The celebrations were for the new ChiNext board in Shenzhen, which formally opens for business today.

ChiNext, which has been styled in the national press as the Chinese Nasdaq, starts life as the country’s third stock market (or the fourth if you count Hong Kong).

A total of 28 stocks begin trading today, and 150 more firms are currently applying for a listing.

Why does China need another bourse?

WiC has reported previously that smaller firms can struggle to find the cash they need to grow. Even with this year’s credit splurge, state-owned banks have been reluctant to lend to smaller businesses.

As a result numerous Chinese firms have gone overseas in search of capital. There are 40 China companies listed on Nasdaq (including internet search engine Baidu and online travel supplier Ctrip.com), another 50 or so on Hong Kong’s Growth Enterprise Market, as well as others elsewhere.

This does not tally with Beijing’s new determination to see its best companies financed from their home market, preferably rewarding Chinese investors.

An overseas listing is not always the best option either, argues Peter Fuhrman, chairman at boutique advisor China First Capital.

Fuhrman says that several hundred Chinese small and medium-size enterprises (SMEs) now regret going public on the American OTC Bulletin Board, having watched their share prices fall to pitiful price-earning multiples. Trading continues to be thin, so they have little hope of raising additional capital.

So good news for the SMEs?

It’s certainly a red-letter day for the bosses at the newly listed firms, many of whom will become renminbi billionaires.

The beneficiaries include Wang Zhongjun and Wang Zhonglei at Huayi Brothers, a film production company covered recently in WiC34.

The press speculates that the success stories might encourage more Chinese to think about starting businesses too.

That should be good for the economy as the SME sector contributes 60% of Chinese GDP and 75% of urban employment.

What about for investors: a wild ride ahead?

Growth boards in other countries have not always been for the faint hearted, warns Shenyin & Wanguo Securities from Shanghai. Around half of the 75 similar ventures that it thinks have been launched since the 1960s did not survive long.

Perhaps that’s why regulators have taken their time in establishing the Chinese version. A growth enterprise board has been in discussion for at least a decade. Launch plans were shelved twice too; in 2001 (the dotcom crash) and again last year (the credit crunch).

Traditionally, growth boards have attracted new business through less stringent listing requirements. Some say ChiNext will be bucking the trend (and there may be a little more to their argument in the Chinese context).

In this case new joiners will need to meet profit performance hurdles and net asset minimums. They will also need total post-IPO share capital of at least Rmb30 million ($4.38 million).

Then there are the various circuit-breaker regulations to cap investor exuberance on first day trading. In the core measure, if prices move up or down 80% on debut day, the bourse will suspend trading until the final three minutes before the session ends.

But is it really a high-tech, high-growth board?

No it isn’t, complains Guo Hongchao in an opinion piece in the Economic Observer.

Guo says that the firms selected for debut day may well tick all the regulatory boxes. But few of them qualify as high-tech plays. Too many are reliant on the manufacturing sector (contrary to the original aim) and a few look better suited for Shenzhen’s senior bourse.

Wang Kai Yun at Sanlian Weekly also questions comparisons with other secondary boards. One of the firms in the queue for ChiNext is a meat supplier to KFC and McDonalds. You wouldn’t expect to see chicken farms appearing on Nasdaq, he sniffs. But perhaps the media’s patriotic streak means it is getting a little carried away with the Nasdaq analogies. The China Daily points out that only 40% of the American counterpart’s market cap comes from high-tech companies, after all.

At least the ChiNext companies are youthful ones. Many are involved in high-potential businesses too; six are new energy and new material companies, there are another six in pharmaceuticals and medical equipment manufacturing, and the rest are in advanced manufacturing, information technology and modern service industries.

Still, it’s clear that there is something of a trade-off going on. Genuinely high-tech firms can be difficult to value and ripe for fluctuations in price. Many will have listed on equivalent bourses on the promise of profits rather than the real thing.

But the last thing that ChiNext wants is a reputation for casino capitalism. So it has started out picking safer candidates that it hopes will demonstrate its responsible credentials.

Guo at the Economic Observer just hopes that this won’t lead to genuine innovators being locked out in the quest for stability in future.

So investors should be OK?

We’ll soon find out.

One fear is that cash could drain out of the Shanghai and Shenzhen Composite Indices. But funds raised on ChiNext are in the Rmb300-500 million range, which is small fry in comparison to a couple of the Rmb40 billion mega listings in Shanghai earlier this year.

Still, buyer beware is the message for investors ready to punt on the new board itself, warns Shang Fulin, the chairman of the China Securities Regulatory Commission. He welcomes the new exchange but warns of “relatively high risks” of “irrational trading, speculation and market manipulation.”

Few expect this to stop a legion of stock-pickers sniffing around the new Shenzhen market. Standard rules of engagement look likely to apply – so expect first day run-ups, and the breakneck ride often associated with local market psychology.

Even then, ChiNext may turn out a riskier bet than the alternatives. Smaller constituent companies and light liquidity make for wilder price movements. The new challengers are privately-owned too, so there is less incentive for the government to step in with policy announcements to perk up prices.

Any signs of the warnings being heeded?

Not really. ChiNext will open today at prices averaging 55 times last year’s earnings, compared to an average of 36 times for other IPOs on mainland exchanges this year, says Reuters.

Investor demand also saw the initial public offerings raise Rmb16 billion, more than double the forecast.

Not to worry, says Shen Hong Bo, a columnist at Southern Weekly. Local investors now think of stock markets like beer. So bubbles are to be expected. What’s more, a new market like ChiNext is pretty similar to a newly opened beer, he says. So we should expect a fair amount of froth.

Bottoms up, anyone?


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