The lack of coordination and coherent policy on China has sent mixed signals and confusion to American investors who are putting money into Chinese companies listed on U.S. exchanges. Collectively, this represents over $1 trillion worth of shares trading in the U.S.
In an unprecedented move, on Dec. 31, 2020, the NYSE announced it would
Over the next 24 hours, the exchange reversed this decision — and then, under pressure from the Treasury Department, again said it would delist the stocks.
Under the Biden administration, what does this mean for financial advisors and their clients? And should Beijing retaliate, what are the critical implications this could have on U.S. and global markets?
This about-face in policy is part of a broader set of disputes between the U.S. and Chinese regulators.
For years, American regulators have complained that firms whose parent companies are based in China but have subsidiaries in the U.S. are not held to the same audit standards as U.S. firms.
Trump, in August of 2020, issued a set of recommendations intended to address the inability of the
Accounting firms that audit companies that raise capital in U.S. markets are required to be registered with the PCAOB and adhere to stringent U.S. audit standards under the
However, the PCAOB and Chinese authorities have been unable to agree to a joint inspection program, despite more than 13 years of intermittent negotiations.
This Jan. 13,
Implications for advisors and investors
At the core of Trump’s
In April of 2020, Luckin Coffee, which competes against Starbucks, admitted to fabricating $309 million in sales revenue. As a result, Americans who invested in Luckin saw the share price plunge by 75% overnight, and the firm was required to pay a $180 million penalty to the SEC.
Luckin Coffee in June 2020 suspended its appeal of its delisting by the Nasdaq.
Advisors, RIAs and family offices advising clients on what to do with investments in Chinese companies forced to delist should begin by reassuring them that this is not an apocalyptic omen.
Clients need to understand that a delisting doesn’t mean that they can’t sell their stock; they just can’t trade on the exchange.
There are several second-tier levels in the market ecosystem where investors holding delisted stocks can still buy and sell shares of “less qualified” companies in markets such as the
For advisors, it is critical to understand the financial situation of each client and how much exposure these investments comprise of their overall investment and current liquidity needs. Clients who have pressing liquidity needs will need to develop an exit strategy faster than accredited investors who are more bullish on growth in China and who can wait longer to sell their stock.
Clients could also wait to see if the Biden administration might change course on the delisting ruling. China has so far taken a wait-and-see attitude toward the ruling and any Biden changes.
Keep an eye on Asia, longer lifespans, the digital world, and green tech, writes Ida Liu, head of Citi Private Bank, North America.
It’s unlikely that the Biden administration will rescind the order, though. One of the byproducts of the Trump administration’s adversarial tone on China policy is that it resulted in both Republicans and Democrats on Capitol Hill taking a harder stance on China, particularly as it relates to American consumer and corporate interests.
What has been fascinating is that, despite a trade war and executive orders calling for Chinese companies to be delisted, Chinese firms have continued to list or “cross list” on U.S. stock exchanges.
Cross-listing is the listing of a firm’s common shares on a different exchange than its original one. Chinese and other foreign companies choose to do this because they can get higher valuations when they cross-list in New York, compared to companies that do not cross-list.
For advisors and clients looking for growth and yield during a global pandemic, China may provide an attractive market.
China
However, Chinese officials immediately took measures to control the spread of the pandemic and reassure investors. As China’s recovery gained traction, while the pandemic continued to spread globally, foreign investors returned to Chinese investments.
Due diligence
However, it is critical that advisors and clients alike do their due diligence when investing in Chinese companies.
In the case of Luckin Coffee, the company opened 500 stores in less than eight months faster than Starbucks, doubled its valuation to $12 billion in eight months and then went public in only two years.
China’s ability to control COVID-19 within its borders has enabled it to reopen to investors, but that doesn’t mean that it’s a panacea for all investments. Advisors must develop a more nuanced understanding of the business, legal and geopolitical risks, and explain these issues to their clients.
Even more important, they must incorporate a diversified portfolio, as well as a hedge to downside risk, to more effectively quantify the overall investment opportunity.
