Are Chinese stocks safe?
Are Chinese stocks safe to invest in? Some of China’s biggest tech companies are facing a new regulatory clampdown, with investors warned to think twice.
Although China needs businesses to thrive to cement the country’s reputation as an economic powerhouse, recent events could be interpreted as reflecting a fear in Beijing that these companies could grow and potentially challenge the Communist Party’s authority at a future date.
The rise of super apps, which allow users to do everything from ordering food to hailing a taxi, has meant the likes of Tencent and Alibaba are extremely influential in the lives of everyday consumers, and Chinese stocks soared in price as a result.
But these tech giants, which have become multi-million-dollar juggernauts thanks to a relaxed regulatory environment, now seem to be feeling the regulatory heat, and their share prices are now wilting, leading many to ask: is it safe to invest in Chinese stocks?
New regulations announced
In the latest Chinese stocks news, China’s State Administration for Market Regulation (SAMR) announced new measures this week designed to prevent unfair competition within the tech sector. The proposed regulations are set to restrict how consumer data can be used and stop companies from abusing their market dominance to stifle competitors.
There are other clouds on the horizon for Chinese tech stocks, too. China is continuing to develop a central bank digital currency (CBDC), an electronic version of the yuan. This is due to be fully rolled out in time for the Winter Olympics, which are being held in Beijing next year.
Fitch Ratings recently warned that the CBDC could radically change the revenue structure of Alipay and Weixin Pay, both dominant players when it comes to mobile-based payments. What remains to be seen is whether the government plans to offer its own payment platform, something that Fitch analysts fear “could raise further competitive challenges” for these important Chinese stocks.
New forms of intervention
Eyebrows have also been raised after The Information reported that the Chinese government has now taken a stake in ByteDance, the owners of TikTok. As part of the deal, Beijing will have a seat on the company’s board of directors.
Chinese stocks have also been susceptible to steep declines following articles from state-run media outlets that criticise Chinese tech companies. Earlier this month, the People’s Daily claimed that youth-focused platforms were boosting stars' popularity and that it would act to restrict “underage fans from irrationally adoring stars”. Although the newspaper stopped short of mentioning social networks by name, Weibo later confirmed it was taking down a page that ranked celebrities by popularity.
The eye-watering penalty handed out to Alibaba after an antitrust investigation by the SAMR also hurt Chinese stocks. April’s $2.75bn fine amounted to 4% of the company’s annual domestic revenue in 2019. The fine was issued based on allegations that the company had abused its market dominance by stopping merchants from selling their wares on rival platforms.
Shares in Baidu, Tencent and Alibaba all fell following the proposed clampdown by the SAMR. The question now is this: how safe are Chinese tech stocks, and what should investors do?
Investor sentiment ‘very bad’
Alvin Ngan, a strategist at Hong Kong-based Zhongtai International Holdings, told Currency.com that the policies being introduced by Chinese regulators are good for the tech industry and the country. He said, however, that they will have an effect on earnings growth at top companies. According to Ngan, many tech giants are now cutting their earnings per share forecasts, and some are facing downgrades to their valuations, sending them to 10-year lows.
He said that investor sentiment on the Chinese stock market was particularly bad at present and that institutional investors are underweighting tech stocks. Whereas Tencent once traded at 27 to 38 times its earnings, Ngan said he believed that the trading range will now fall to 20 to 30 times its earnings.
Ngan said that the clampdown will have to come to an end at some point: “The aim of the government is not to make tech firms die, only to lower their growth. So we should have a long-term investment horizon for Chinese stocks.”
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Asked whether tighter regulations could expand beyond the tech industry, Ngan said that all sectors related to social welfare risk being affected, including pharmaceuticals, property and gaming.
More volatile investments
Steve Clayton, manager of the HL Select Funds, told Currency.com that some elements of the crackdown appear to be more about ensuring that companies play straight when they deal with Chinese citizens, rather than merely limiting the scope of big tech to drive social change.
He said that the likes of Alibaba and Tencent are crucial in providing the technological infrastructure that drives essential commercial activities across the country: “It is hard to see how China would benefit from damaging the major tech giants’ capability to provide that infrastructure. Indeed, China will be wary of anything that could make it uninvestable in the eyes of the outside world, for that would surely constrain its ability to grow.”
Looking forward, Clayton said he expected that investors will need to get used to a more assertive China, adding that to operate successfully, companies must ensure their corporate behaviours are acceptable to the state.
“That is likely to make major Chinese tech companies more volatile investments,” Clayton said. “But the huge growth potential of the Chinese economy remains undiminished, so we expect to see investors returning to these names in the months ahead.”
He also pointed out that “a rolling crackdown” has been running in China for some time. While the luxury goods sector took a hit when President Xi Jinping sought to root out corruption within the public sector a few years ago, Clayton said, the affected Chinese stocks soon bounced back.
Echoing Ngan’s remarks, Clayton added: “The current crackdown appears to be designed to increase corporate probity and raise competition. China will not outlaw video games, but it may well wish to steer the messages conveyed within them. We do not doubt there will be other targets, raising the risks attached to Chinese stocks in the near term.”
He also warned that investors need to have their eyes wide open when it comes to the question “are Chinese stocks safe”, but added: “We think that if they can focus on the longer-term and ride out near-term volatility, there may well be bargains to be had.”
It has been a painful few months, with the Nasdaq Golden Dragon China Index, which follows Chinese tech stocks listed on New York exchanges, falling by almost half in the six months to 18 August. In a recent video, the chair of the US Securities and Exchange Commission, Gary Gensler, warned American investors about the risks associated with gaining exposure to Chinese stocks, doubling down on calls for US officials to be allowed to scrutinise their finances.
Alibaba, Tencent, Weibo and ByteDance did not immediately respond to Currency.com’s request for a comment.
If you want to invest in Chinese stocks, you need to do your own research and be prepared for the eventuality that you might lose your money. Never risk more money than you can afford to lose.