The non-domestic appetite for Chinese company shares is growing as China relaxes the rules and both investor relations from Chinese companese and research about them improves
Several years ago, in the NYSE’s dining room, I watched an amazing display of backslapping as Dick Grasso, then CEO and chairman of the exchange, played host to former Chinese president Jiang Zemin.
‘Why, there could well be 3,000 Chinese companies listed on the Big Board by the year 2000,’ Grasso predicted, ‘and that would double the NYSE’s roster of listed companies.’ ‘Never mind 3,000,’ Jiang burst out, ‘why not 30,000?’ On that day, gushed Grasso, he would proudly fly the Chinese flag alongside the Stars and Stripes on Broad Street.
Was I the only one struggling to keep a straight face? Perhaps. But those were heady days, and the brokers and traders dining with Grasso, Jiang and me were soon to get their sweaty palms on amazing fortunes at home and abroad – and then subsequently let them slide away as bubbles burst and high-flying companies crashed. As for Chinese stocks, apart from a handful of blue chips making their way to New York, hordes of newly restructured firms have been held back behind the Great Wall. And they all seem to have their own miniature Great Wall of investor blockades instead of investor relations.
Slowly but surely, though, gaps are opening in that wall, caused by erosion from a newly opened flood – okay, trickle – of foreign investment in domestic Chinese companies. With renewed backslapping and cries of gambai between Wall Street, Beijing and Hong Kong, foreign institutional investors and brokers along with their counterparts on the mainland are ramping up research on domestically listed stocks and pushing for more information from companies.
In giving foreigners access to its domestic stock and bond markets under a qualified foreign institutional investor (QFII) scheme announced in 2002, Beijing hopes foreign institutional investors could help stabilize China’s infamously speculative markets and encourage a higher level of expertise in the country’s troubled brokerages and asset managers. Foreign institutions, for their part, hope their presence will ‘haul [mainland-listed] A-share companies up to international standards,’ in the words of one fund manager.
Standing at the head of the queue is UBS, the first institution to get a QFII license. In July 2003 UBS placed its debut order in China’s yuan-denominated A-share market, a $500 bn investment arena of nearly 1,300 listed companies previously closed to foreign investors.
As of March 2005 the State Administration of Foreign Exchange (Safe) had approved a combined total of around $3.65 bn in investment quotas for approximately 24 QFII licenses, some of which went to such notable big guns as Merrill Lynch, Morgan Stanley and even the philanthropic Bill & Melinda Gates Foundation.
Small potatoes
Still, $3.65 bn or so is but a drop in the bucket in a market this size, and practically all of the foreign money sunk into A-shares has been concentrated on a core group of around 50 blue chips. Nicole Yuen, head of China equities at UBS, admits she and her staff cover just 30 A-share companies, with a goal of increasing their coverage to between 60 and 70. Currently they have a total investment universe of around 150 companies, which she hopes to see grow to around 300.
Yuen agrees QFIIs have indeed managed to encourage better disclosure on the mainland. ‘As our contact increases, more companies are willing to share information with us,’ she says. ‘The phenomenon is spreading.’
Yuen also points out that as UBS and other QFIIs have begun publishing research on A-share companies, sell-side research by domestic Chinese firms has started to improve. ‘The quality is gradually rising to our standards as companies copy our style and imitate our analysis,’ she explains. ‘In fact they complement our analysis because, while we start from an international angle and zoom in on China, they take a more domestic view.’
Until now foreign investors have had easy access to Chinese companies in the form of Hong Kong-listed H-shares and US-listed ADRs. But companies listed solely on the mainland could buy only B-shares – a stagnant and illiquid pack of scandal-ridden mongrels. Mainland companies are eager to delve deeper into the A-share market, which, as Yuen points out, is ‘a new universe of companies that isn’t available in the H-share market.’
For example, say an investor wants to bet on Chinese ports. He could buy Hong Kong-listed Hutchison Whampoa stock, but with that comes 3G telecoms and other unrelated industries. ‘For a pure-play port stock you have to go straight to the A-share market,’ Yuen says. What’s more, some A-share companies have a lower valuation compared with Hong Kong-listed firms in the same sector.
How should A-share companies handle the influx of QFIIs and their new legions of research analysts? ‘Come and see us!’ Yuen exclaims. In early September UBS held a corporate symposium with 15 A-share companies in Singapore and Hong Kong. ‘One or two trips like that and they start to get a good feel for what the sell side wants,’ Yuen adds. ‘If it’s a good company, management already knows all the answers; it’s just a question of how to present the story.’
Sell side to the fore
Mark Hynes, managing director of investor relations at Xinhua PR Newswire, says that as financial giants like UBS and Merrill Lynch gain QFII status, foreign investors are starting to gain ‘a much more significant way to access the Chinese market. In the past they had to do a lot of their own research on China. Now there’s a whole new scale of quality research coming from the QFIIs as well as from local companies modeling themselves on their foreign counterparts.’
There’s a lot of work to be done for A-share companies by both sell-side firms and IR consultants, Hynes adds. ‘In the past it’s been appallingly difficult to get information out of listed companies themselves,’ he explains. ‘A-share companies first need help understanding what information investors want to receive and, second, the methods and means to give it to them.’
A Beijing-based Wall Street correspondent confirms the improvement in research coming out of mainland sell-side firms. ‘Chinese researchers have been following companies with much more nitty-gritty detail while learning how to present a better story the way foreign sell-side firms do,’ she notes, adding that A-share companies themselves ‘are becoming much friendlier and giving better information.’
James Liu, a Beijing-based investment manager with Singapore’s APS Asset Management, also defends the quality of mainland sell-side analysis. ‘Some of the research being done here is comparable to research from Hong Kong and other more developed markets in terms of risk analysis and depth,’ he says. ‘The problem is that it’s all written in Chinese and not well presented to international investors.’
But Liu admits that while some local analysts are getting better, a lot of improvement is still needed. ‘Their financial modeling is weak, though that has a lot to do with the companies they’re covering,’ he explains. ‘Try talking to IROs at mainland Chinese companies – it’s hard for them to tell you their capital expenditure over the next few years. I have a lot of sympathy for local analysts.’
Looking on the bright side, with all the buzz about QFIIs, Chinese companies are beginning to step up efforts to attract foreign investors, says Chris Liu, Ketchum Newscan Public Relations’ Hong Kong general manager and senior VP for greater China. He has been closely following the development of mainland sell-side research and says the quality is ‘still no match’ for what comes from brokers in Hong Kong or elsewhere overseas. ‘The main target of any existing IR program is to look outside of mainland China,’ he comments.
Net positive
Stephen Green, a senior China economist with Standard Chartered based in Shanghai and the author of two books on China’s stock market, says the QFII scheme is still so small it’s hard to gauge its effect on corporate governance and transparency among other positive influences such as shareholder activism and market regulation. On the other hand, for whatever reason, the quality of Chinese sell-side research has improved greatly.
‘I went to Shanghai in 2000 and saw a great deal of the research being produced,’ Green recalls. ‘Since then I have been visiting regularly and the research produced now is much, much better, with systematic projections, graphics and a clear strategy in the choice of equities being covered.’
Green predicts Beijing will continue its current feverish rate of licensing new QFIIs and raising existing investment quotas. The biggest challenge for QFIIs now, he says, is expanding their coverage beyond a handful of large-cap A-shares. After all, foreign investors can already choose from an array of big Chinese companies listed in Hong Kong and New York.
‘As research standards improve and corporate restructuring takes hold on the mainland, institutions will probably be better able to invest outside the blue-chip circle of A-shares,’ Green hopes. ‘In the short term, however, there is the danger of a mismatch in supply and demand, perhaps resulting in a blue-chip bubble.’
As for A-share companies, they might be wondering what’s in it for them if, as Yuen admits – and everyone else seems to agree – $3.65 bn in QFII investment is miniscule in a $500 bn market. That figure is, however, bound to grow as UBS and other QFIIs push Beijing to raise the $800 mn ceiling on individual quotas.
‘But the biggest advantage for Chinese companies is that if they can attract QFIIs, that will raise their profile in the Chinese market – QFII investment is a mark of quality in an A-share company,’ Yuen notes.
Signs point to the Chinese government raising the amount foreign institutions can invest in Chinese equities and bonds. In December 2004 Safe increased the investment quota for Hong Kong & Shanghai Banking Corp, a unit of HSBC Holdings, by $100 mn to a total of $200 mn. At the end of February the government approved an additional $100 mn quota for Morgan Stanley, according to Safe. And, as IR magazine went to press, it appeared the government is assessing QFII quotas on a case-by-case basis rather than making any broad rule changes.
For IROs, the further the government goes in lifting the quotas, the better. Foreign institutions are clearly developing an appetite for Chinese securities, and measures that ease direct investment are obviously positive from an IR standpoint.