Deng Xiaoping’s Southern Tour in 1992 is widely seen as the catalyst for reinvigorating China’s ‘reform and opening up’ policies, after they had been stymied by conservative forces. The visit by the paramount leader (though officially retired) to the special economic zone of Shenzhen was a symbolic affirmation of his support for bolder market-based reforms. A key plank that Deng highlighted was the promotion of a vibrant capital market. “Some people say that equity trading is capitalistic. We’ve had a taste of it in Shanghai and Shenzhen. The results have proven to be tremendous. It seems there are elements in capitalism that socialism can borrow from,” commented the then 88 year-old.
Twenty-eight years later and Deng might have been pleased to see that China’s onshore stock markets have made a gigantic leap. Its bourses trail only those of the US, at a capitalisation of Rmb73 trillion ($10.7 trillion) as of August 31. That gargantuan size, however, does not imply the market operates efficiently – given that China’s financial reform agenda has always been something of a stop-start process. These flaws are often cited by critics to explain the low proportion of foreign ownership of A-shares (around 3% of the market’s total value).
But to accommodate the funding needs of an ever-increasing number of Chinese growth companies, a key overhaul took place late last month on Shenzhen’s ChiNext. For the first time, listing candidates on the 11 year-old bourse were no longer subject to any limits on price movements during their first five days of trading. After that, they were allowed to rise or fall by up to 20% in a single session, versus the more standard 10% cap that has been in place for A-shares since 1996.
The process for registering an initial public offering was also streamlined – such that applications are now being vetted based on the quality of disclosure to the Shenzhen Stock Exchange, as opposed to through a negotiation with the China Securities Regulatory Commission.
Under the new regime, the first batch of companies, totalling 18, went public on August 24, two days before their host city celebrated its fortieth anniversary as the laboratory for China’s reforms (the Shenzhen Special Economic Zone was officially established in August 1980). Surging an average 200% on their debut, they added Rmb465 billion to ChiNext’s total market capitalisation. Contec Medical Systems, a Hebei-based medical diagnostic and monitoring equipment maker, spiked as much as 29 times before closing with a first day gain of 1,061%.
Nisha Gopalan, a columnist for Bloomberg, viewed the wild swings as “a sign of emerging maturity” in the A-share market because they indicate greater tolerance for volatility by the authorities. Past efforts to liberalise the market were habitually thwarted when the regulators got anxious over ferocious fluctuations and stepped in with heavy-handed controls. For instance, on the heels of the epic equity rout in the summer of 2015, Beijing instituted a six-month lock-up period on shares held by major shareholders, as well as corporate executives who owned more than 5% of a company’s tradable stock.
“Officials’ distrust of unfettered market forces and determination to impose guardrails has produced distortions,” Gopalan suggested.
The race between Shanghai and Shenzhen to become China’s leading stock market has been well documented (see WiC236). And the two bourses now look to have brought their rivalry to another level. ChiNext’s revamp – approved in April and implemented in June – was meant to emulate the stellar success of the STAR Market that was launched in Shanghai last July (see WiC506). In just over a year, the Nasdaq-style board attracted 159 IPOs (the companies in question were collectively worth above Rmb2.9 trillion as of August 21). By comparison, ChiNext’s aggregate market capitalisation was just three times that of the newer STAR Market, despite playing host to five times the number of listed firms.
More significantly, a lot of the companies that floated their shares on the STAR Market were at the vanguard of their respective industries. Examples include QuantumCTek in end-to-end encryption, AMEC in LED semiconductor equipment, and Chipscreen Biosciences in the treatment of cancer and metabolic disorders.
There are hopes that the changes in the rules could help ChiNext diversify its listings, which remain heavily concentrated in manufacturing (69% of listed firms). Among the recent debutants, there was a fintech solution provider (Tansun Technology), a veterinary drug maker (Hvsen Biotechnology), a waste treatment operator (Shengyuan Environmental Protection), an electronics freight forwarder (Hichain Logistics), and even a stage production manager (Beijing Fengshangshiji Culture Media).
Another stock that has captivated investors is Anker Innovations Technology, a Shenzhen-based gadget accessory producer best known for making portable battery packs and cables, many of which are available in Apple’s stores. Its products were some of the best selling on Amazon’s US site. That popularity explains why the company derived 56% of its revenues from North America last year. Europe and Japan are its second and third largest markets, taking 17% and 13% of the pie respectively.
In their first five days of trading, Anker’s shares rose 93%, giving it a market capitalisation of Rmb51.9 billion turning the company into the most valuable among its cohort. Its 38 year-old founder Steven Yang, a former Google engineer, became an overnight billionaire, thanks to the 48% stake he holds together with his wife.
Despite investor enthusiasm for the debutants, CATL, a major electric vehicle battery supplier that counts Tesla among its customers (see WiC506), and Mindray Medical (see WiC459), a hospital device maker, are still the largest listed firms on ChiNext. The index that tracks the board’s performance has returned 54% this year, with its constituent stocks averaging 78 times their trailing earnings. (For comparison, the STAR 50 index yielded a 42% gain at a price-to-earnings multiple of 95 in the same period.)
Traders are right to be concerned about some of ChiNext’s elevated valuations, which are approaching levels close to those before the market meltdown in 2015. Unexpected events that choke off liquidity or any evidence suggesting a slowing in China’s economic recovery could derail the market momentum, according to the South China Morning Post. Yet few believe that China’s financial regulators will prove as overly protective again and intervene prematurely, as the urgency for reforming its stock markets has been heightened by the fraying relations between China and the US. With Washington threatening to restrict Chinese firms’ access to the US equity markets – as well as prohibiting US pension funds and college endowments from investing in Chinese companies – the need for flourishing local bourses has never been greater.
This was the view expressed in a recent report by the China Finance 40 Forum, a Beijing-based think tank of senior regulators and financial experts.
“Under the current situation, we should not only keep fighting, but also make good preparations by developing our own financial markets. Building a super-large financial market can lower the possibility of financial decoupling,” said Xiao Gang, former chairman of the CSRC and one of the authors of the report.
In what seems a complementary move, Shenzhen announced another bold rule last Wednesday that allows weighted voting rights (WVRs) share structures for companies looking to incorporate or list in the city. The Supreme People’s Court also issued a directive on enhancing regulations in relation to securities fraud, given the expectation that the looser rules governing the ChiNext are likely be extended to other Chinese bourses within the coming three years, suggested Sohu, an online news outlet.
The Hong Kong Stock Exchange, which has been a key beneficiary of the anticipated forced delistings of US-traded Chinese firms (see WiC497), is mulling a further relaxation of its own listing regime to bolster its appeal as an IPO destination too. The consideration this time is whether to let companies with a corporate shareholder (as distinct from an individual such as the company founder) control more voting rights than other investors. These WVR structures are accepted in the US and Singapore. US-listed Chinese companies like Tencent Music, Huya and Youdao all have them and would currently not be permitted a secondary listing on the Hong Kong bourse as a result.
“There are companies with hundreds of billions of market cap that want to be back here, but probably are not going to be able to come back unless we make those changes,” commented Charles Li, HKEx’s chief executive, during a recent webinar.
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