A version of this article was first published in FinanceAsia.
Major Chinese indices underperformed in comparison with their emerging market and global peers in 2021, as Beijing’s tightening regulatory oversight and geopolitical concerns with the US lingered across new economy and technology sectors, hampering the share price of major index constituents.
Beijing’s 2020 decision to scrap the initial public offering (IPO) of Ant Group, Alibaba’s fintech arm, set a downward valuation course for companies managing customer data. Suddenly, technology’s most valuable asset - user data - had become a liability. Last year, China’s market regulators initiated an antitrust probe into Didi shortly after the ride-sharing company went public in New York, erasing more than three quarters of its market valuation in the months that followed.
But so far this year, Chinese equities are showing early signs of a recovery. The Hang Seng Index (HSI) is outperforming world equities, which suggests that investors are becoming more comfortable with the risk-reward profile at current levels. Furthermore, year to date, Alibaba has recovered a tenth of its value after falling by more than half since the Ant Group debacle.
Though few believe that China’s drive to strengthen its regulatory oversight is complete, the incremental rule changes that follow may be less jarring. “Tougher regulation was not the real issue,” explained Eric Ritter, adjunct professor of economics at Lakeland University in Tokyo speaking to FinanceAsia. “It was the lack of solid details and few examples to base those rules which made the market nervous.”
Green shoots of risk appetite
Following a series of meetings with policymakers and visible public support, companies have responded to Beijing’s campaign to better regulate the market and user data. Didi recently announced its intention to relist in Hong Kong, possibly setting precedent for others looking to raise capital in the immediate future.
The Hong Kong IPO for SenseTime, an artificial intelligence (AI) software company specialising in facial recognition, rallied by more than a fifth on its first trading day, in spite of having its public offering initially delayed when the company was added to the Treasury’s Office of Foreign Assets Control investment blacklist, in early December. With its share price more than doubling since going public, investors appear to have discarded geopolitical concerns from the US Treasury Office for the time being. In fact, the company itself released a statement in December strongly opposing the US Treasury’s accusations.
Such optimism has also been carried into other sectors that were viewed as uninvestable just a few months ago. Earlier this month, Macau legislators passed a draft gaming law amendment bill, which removes a lingering concern by investors over the fate of Macau’s future, given its current twenty-year gaming concession is due to expire in June.
While the proposed bill halves the concession length of gaming and casino proprietors to ten-years, it leaves the corporate tax rate and the number of gaming licenses granted in the special administrative region unchanged. At six concessions, this indirectly implies that all major casino operators would be able to retain their presence in Macau for at least another decade. Gaming stocks jumped following the news, assuaging previous fears around requiring government representatives to directly supervise all casino operations.
Analysts such as Sean Darby, a global equity strategist at Jefferies, pointed out in a research note circulated last week, that because regulation concerns continue to hold an overbearing impact on the Greater China market, easing bad news is sufficiently impactful and more or less equates to relieving all concerns, which bodes well for sectors and indices that were negatively impacted in recent times.
The medium-term challenges
While less bad news acts as a welcome catalyst for markets, questions around the medium outlook remain. But the SenseTime IPO demonstrates that investors are willing to shake off sanction concerns that emanate from the US, as Chinese domestic funds step in to support technologies that are politically backed by Beijing, according to Ritter.
However, as the US enters a political mid-term cycle, the rhetoric towards China is only going to get tougher, he predicts. This, he warns, could impact how currently blacklisted companies make their next move in order to simultaneously expand their international businesses, while also testing their ability to fund their operations by relying purely on domestic capital markets and onshore manufacturers.
Other sectors likely to face similar challenges amid Beijing’s ongoing “common prosperity” campaign include those that uphold a negative social stigmatism, such as casino stocks. Regenerating Macau’s gross gaming revenue could prove difficult, as the proposed bill limits the influence of junkets and agents that service VIP customers - a business that normally generates more revenue than mass-market players.
At some point, equity investors will want good news to replace what can be considered as at least, less problematic. But thus far, it seems that 2022 is off to a good start for those that held onto their share of the “untouchable” sectors of months gone by.