As the country continues to tighten the regulatory squeeze on sectors such as technology, we take views from wealth managers about how they see matters panning out.
On Thursday, Chinese equities, led by technology stocks after authorities in Beijing tightened their regulatory controls on gaming companies for focusing solely on profit, suggested that life for tech firms in the Asian giant is becoming increasingly chilly. The Hang Seng Tech Index tumbled 4.5 per cent, the largest drop in six weeks, with Tencent Holdings dropping by almost twice that amount in its worst day in more than a month. NetEase slumped 11 per cent in a decline that accelerated after a report that China would halt approvals for new online games (source: Bloomberg).
A few weeks ago, China shocked global markets by clamping down on for-profit after-school education firms. Authorities halted new sign-ups for Didi Global after the ride-hailing firm went public in the US; Beijing wants to take the firm under state control, reports have said, although Didi denies this. It has hit video-game makers such as Tencent by restricting children’s screen time. While specific actions vary, there is a common trend of expanding state restrictions. Another example was when Ant Group, an affiliate of Chinese e-commerce giant Alibaba, had been slated to have its $34 billion IPO pulled in early November 2020 in what would have been the world’s largest share float ever. However, investors were stunned when the IPO was pulled only a few days prior to the event. (Reports said that Ant Group’s rapid lending growth rattled regulators.)
Ironically, while these developments have prompted some wealth managers to think that China is too risky, in late July, Goldman Sachs cut its view of China’s offshore equity markets. The US firm cited a disproportionately high index representation by tech and privately owned companies for its adjustment of views on MSCI China to “market-weight” from “overweight” (Reuters, 29 July). Pictet Asset Management, part of Swiss bank Pictet, has also taken the same course. (This publication has also written about the issues here and here.)
Given the situation, here are some more views by wealth and asset managers:
Mark Martyrossian, CEO at Aubrey Capital Management The carnage wrought in several sectors of the Chinese market (tech, educational and luxury brands) over the last weeks as a result of a government diktat has been widely reported. With few exceptions, the commentary is bearish and the news from China suggests that further pressure is being brought to bear: earlier in this week Tencent sought to display it credentials as a good corporate citizen by announcing that it will be limiting the time that youngsters can spend glued to its games to three hours a week.
We wrote on the matter in July and cautioned that some of the policies being discussed would undermine certain business models. However, having covered the Chinese stock markets for the last 30 years, we did point out that sporadic regulation aimed at tempering capitalist exuberance or excess was nothing new. Our experience shows that whilst radical policy changes are difficult to predict, picking the companies with robust models is still possible and allows investors to profit.
The continued share price weakness since we last wrote has prompted us to revisit the subject and highlight further examples of erstwhile successful companies that have been in the cross hairs of government scrutiny. We now know that several other companies have been on the receiving end of regulatory censure: one of the largest social media network companies, a now global e-commerce platform which supports the livelihood of hundreds and thousands of SMEs and a couple of tech companies which have already penetrated the everyday life of millions of consumers.
The names of these companies? “Well, off the record, on the QT and very hush hush,” the stocks concerned are Facebook, Google, Amazon, Apple and Microsoft! In other words, government regulation is not just a Chinese phenomenon but a global one - D.C. and the European Commission have been conducting antitrust enforcement since the late 1990s. Each of the aforementioned companies have been facing antitrust lawsuits - Microsoft was fined $1.4 billion in 2008 and market cap has increased 7x since then; Apple paid a fine of $15 billion in 2016 and its market cap has since tripled in value. The share prices of the others following similarly hefty fines have, when looked at over the medium term, hardly missed a beat. As investors, our experience is that top class companies with leading technologies and business models remain great investments notwithstanding periodic sanctions. What doesn’t kill you it seems can indeed make you stronger.
That being said, we do not ignore major policy changes in China: the initiatives announced in the education sector have clearly undermined many private sector businesses. Whilst we have no doubt that - given the priority ascribed to education - private tutors will remain in high demand, it is difficult to see how the provision of these services provided by publicly-listed companies can be feasible.
A direct read across from US/EU regulation on the one hand to the sanctions announced in Beijing on the other may be an extrapolation too far, but the damage done to the prices of good quality companies supplying the consumer with innovative services and products now look interesting (Tencent, Meituan, Bilibili are all down between 40 to 50 per cent). Sentiment still blows to the negative but there are signs of a price level being reached in some of these stocks with attractive valuations for investors willing to look beyond the short term.
Having reduced our exposure in China from 55 per cent at the beginning of the year to just over 30 per cent today, we are not intending to reverse this imminently, but we are scrutinising the opportunities increasingly positively. One last word on the differing perceptions between international and domestic Chinese investors to these regulations. The latter seem less concerned as evidenced by much more modest falls in local indices than those referenced by the former. Government policy on “common prosperity” in China appears to have more resonance at home than abroad. We shall be writing on why this might be the case shortly.
Frank Tsui, senior fund manager and head of ESG at Value Partners
While regulatory tightening is not new in China, this time markets are pondering the intention as it appears to go beyond the normal frameworks and requires reassessment. We view the recent policy implementations and draft consultations in various sectors…as part of the long-term quality growth agenda - to pursue equality, balanced developments.
Therefore, in spite of the near-term pains of curbing the power of large corporates with monopoly potentials and impacts to social harmony, the agenda to address long-term quality growth will offer a quality outlook and we focus on identifying the potential de-rating and re-rating developments in respective areas.