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Law Without Order – Investors Grapple with China’s Regulatory Risk

S&P/BNY Mellon China Select ADR Index has lost 18.8% this year; Crackdown on education companies follows that on Didi and other tech firms 

Alibaba founder Jack Ma stirred a hornet's nest with a speech he gave in October 2020, which spurred a major overhaul of the e-commerce giant he set up to reduce lending risks and breaches of new anti-monopoly laws. File photo: AFP.
  • S&P/BNY Mellon China Select ADR Index has lost 18.8% this year
  • Crackdown on education companies follows that on Didi and other tech firms 


Western investors are wrestling with the risks of investing in US listed stocks of Chinese companies after Beijing began a regulatory crackdown on large swathes of its economy, from the internet sector to private tutoring.

The S&P/BNY Mellon China Select ADR Index, which tracks the American depositary receipts (ADRs) of major US-listed Chinese companies, dropped 5.9% on Friday after Beijing moved to bar tutoring for profit in core school subjects, triggering a collapse in the shares in the sector.

It was the latest in a series of actions by Beijing that have caused the index to lose 18.8% since the beginning of the year. A string of cybersecurity investigations by Chinese regulators into major technology companies such as Alibaba Group Holding and Baidu has prompted many investors to dump their shares.

China’s latest crackdown on technology firms was announced just two days after ride-hailing giant Didi Global went public in New York at the end of last month. Its shares are down 42% since the initial public offering.

The Chinese Communist Party’s uneasy relationship with private business has always weighed on the minds of Western investors who seek legal and regulatory certainty to place their bets.

Bring it Home

Yet Beijing’s recent moves are unsettling even seasoned investors who are otherwise used to navigating corporate China’s murky auditing and poor governance in order to chase growth in the world’s second-largest economy.

Max Gokhman, head of asset allocation at Pacific Life Fund Advisors, where he oversees more than $30 billion in assets, said he believed Beijing’s end-game was to bring capital back to China. He said he was bullish on many Chinese consumer-facing companies over the long term because of the country’s emerging middle class, but that it was difficult to price stocks in the short term.

“The near-term picture is murky as Chinese ADR issuers are caught in the crossfire between US regulators that are asking for more disclosures and Chinese regulators that demand privacy for data on Chinese citizens,” Gokhman said.

Some investors deem these investments too risky. Paul Nolte, portfolio manager at Kingsview Investment Management in Chicago, said he has not held any China-related stocks in his portfolio for the last two years because of the political risk.

“What we have done is moved away from the fundamentals of the companies. It has now become a political football and there is no way to analyse that and put it into a financial spreadsheet,” Nolte said.

Bottom Out

The vexing question for many investors is whether they can call the bottom in these stocks. With the S&P 500 at record levels after rallying more than 95% from its March 2020 lows, they are trying to establish whether the next rally could come in Chinese ADRs.

The discrepancy in the trajectory of the shares of US and Chinese companies has been especially profound in the technology sector. The regulatory clampdown has suppressed the value of Chinese tech firms just as US technology giants are riding high after work-from-home and big data trends accelerated during the Covid-19 pandemic.

“At this point, it is anyone’s guess where (Chinese ADRs) will bottom, and where you are seeing this money go is to the US big tech stocks,” said Joel Kulina, a senior trader at Wedbush Securities who specialises in technology stocks.

Reporting by Reuters


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