While the context of the coronavirus has accentuated the existing divisions between the United States and China, tensions have publicly overthrown in the capital market space for the first time in modern history. It started with Donald Trump’s announcement of restrictions on US public pension fund investments in Chinese stocks. Shortly after, tensions escalated with news that Chinese companies listed in the US would be subject to review by the PCAOB (the US accounting regulator) or risk forced delisting.
Both of these developments were followed by retaliatory Chinese statements, initially on the potential ban on variable interest entities (VIEs), which ultimately survived. Subsequently, Chinese authorities zoomed in on individual companies. Notably, Chinese carpooling app Didi was targeted, forcing its post-float valuation to plummet. According to its latest announcement, the company has decided to delist in New York and move to Hong Kong – a move that requires extra effort.
These developments had severe consequences for Chinese issuers and moderate consequences for US exchanges and global investors. These impacts should increase in the coming months. Until now, the US market has been by far the most popular overseas market for Asian companies. Over the past decade, 80% of Chinese foreign IPO proceeds have come from the US stock market. This represents 37% of all foreign IPOs in the United States during the same period, according to the OECD Report on Asian Capital Markets.
Yet the marriage of Chinese issuers with US markets appears to be coming to an end, especially given the latest announcement by the China Securities Regulatory Commission (CSRC) that Chinese issuers will be required to obtain approval in their country before raising capital abroad. Until then, such restrictions were formally practiced in a handful of less developed markets like Algeria. Restrictions have also been practiced informally in a few other countries, where governments have pressured issuers to register domestically first.
Getting that approval will be tricky. Even for local listings, the lengthy CSRC review process has indeed been one of the reasons why Chinese companies have sought to raise capital overseas. It normally takes at least a year for IPO applications to be processed with a rejection rate of around 30%, according to the OECD. Given the current turn of events, approval of foreign listings by Chinese issuers is likely to take even longer.
An interesting question raised by these events is who Chinese companies will turn to if they are no longer welcome – Ironically, by US and Chinese authorities – to raise capital in the United States. Although for different reasons, both administrations are increasingly concerned about the power of tech companies. Indeed, the promised redirection of Didi’s listing from New York to the Hong Kong Stock Exchange provides a glimpse of what could possibly be a broader trend in the months ahead.
Already last year, the Hong Kong Stock Exchange changed some of its corporate governance rules. As explored in our recent episode of Governance Dialogues with Jamie Allen, the secretary general of the Asian Corporate Governance Association, the rules can be an arc to adapt to the potential list of Chinese companies. Not all exchanges do the same thing.
The London Stock Exchange, for example, had previously sought to change some of its rules to accommodate listings of large state-owned companies, including Saudi energy giant Saudi Aramco, but relented in the face of strong rebuke from investors. This difference provides insight into the potential direction of China’s so-called “regulatory refugees” – companies that would have liked to raise capital overseas, but suddenly find themselves unavailable.
The picture emerging in recent months is that Chinese issuers are unlikely to look to London – the US rival in the natural capital market – not only for reasons related to Brexit and the question marks around of London’s viability as a leading financial centre. Beyond London and its role in the global financial landscape, the question more generally concerns the relevance of developed stock exchanges in relation to the fundraising needs of emerging companies. They seem to be in doubt.
Chinese companies have been the most frequent users of IPOs over the past decade, with more than twice as many IPOs as in the United States. They currently face uncertainty as to which market will best meet their needs without exposing them to regulatory uncertainty, whether at home or abroad. Hong Kong appears to be the preferred and most viable option, under the assumption that the city’s status as a global financial center is unaffected by its Covid policies and China influence.
If other emerging market issuers take a similar view, the status of developed market exchanges could suffer, as foreign listings have been a key source of their growth. For example, as of last year, the market capitalization of nearly 250 Chinese companies listed in the United States exceeded US$2 trillion. Given that China and India have hosted a third of the world’s growth company IPOs over the past five years, their absence in New York or London, for that matter, will likely not go unnoticed.
Already, it is clear that the march of Chinese companies away from US markets will be significant. Not only for Chinese issuers and US exchanges, but also for global investors, including assets Chinese equities and bonds continue to rise (up $120 billion last year) and appetite for emerging market equities is strong, despite political and regulatory risks. Already, regulatory announcements that shook the valuations of Chinese companies have spooked large institutional investors.
And yet they are heavily exposed to Chinese companies, which make up 33% of the MSCI Emerging Market Index since the addition of China A-shares in 2019. They are also exposed to overseas-listed Chinese and Asian issuers that the OECD estimates more than 500 companies, listed mainly in the United States. It’s no wonder that recent instability in the regulatory framework around Chinese VIEs and subsequent Didi-related developments have left investors uneasy.
Beyond what we have already seen over the past few months, recent announcements from US and Chinese regulators challenge the hegemony of major stock exchanges – notably the NYSE, LSE and NASDAQ – as preferred venues for foreign quotes. If we extrapolate the trends of the last few months – and as companies in emerging markets move away from the “blue chip” markets – the structure of the global stock market industry could undergo considerable changes, beyond this Sino-Chinese episode. American.
Alissa Kole is the Managing Director of Govern Center, a niche research and advisory institute specializing in economic and corporate governance in emerging markets. She is a former visiting scholar at the LSE Middle East Centre. His experience in Europe, the Middle East and Africa spans over 15 years, currently leading the work of GOVERN and previously managing governance and private sector development programs at the OECD.
This article was first published in LSE Business Review
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