Caixin View: Worries Over Impact of CDRs on Market Liquidity Are Overdone

Several Chinese tech giants listed overseas, including Alibaba Group Holding Ltd. and Baidu Inc., are expected to offer shares on the domestic market through the Chinese depositary receipts (CDRs) pilot program as early as the end of June. Smartphone maker Xiaomi Inc. also said Thursday that at least half the shares in its planned initial public offering (IPO) will be sold through CDRs. Modeled after U.S.-listed American depositary receipts for foreign equities, the CDR program will allow Chinese companies traded in New York, Hong Kong or other overseas markets to gain a domestic listing.

When the initiative was first announced back in March, we were concerned that a rush of interest in CDRs might suck up a big chunk of liquidity from China’s capital markets (See Caixin View March 30). There certainly seems to be plenty of enthusiasm among domestic investors to get a piece of the action. Last week, six large Chinese money managers rushed to set up equity funds aiming to raise as much as 300 billion yuan ($46.8 billion) — 50 billion yuan each — to mainly invest in CDRs as well as the IPOs of new tech companies.

The securities regulator (CSRC) seemed a little worried as well — last weekend it told fund managers to report the pace of their fundraising twice a day and to limit the total amount of investment from individuals to 20 billion yuan for each fund.

Our concern has eased a little however, and we now believe that the impact on market liquidity will be relatively contained. This is because the flow of regular IPOs has been slow this year: 51.9 billion yuan was raised via IPOs on domestic bourses from January to May this year, down from 108.9 billion yuan over the same period last year. This is likely the result of intentionally lower IPO approval rates by regulators as they attempt to increase the quality of new offerings. If this pace is maintained for the rest of the year, total fundraising from IPOs will be around 100 billion yuan lower in 2018 than in 2017, leaving more cash available to be absorbed by CDR funds and dampening a potential liquidity drain.

The immediate impact of CDR issuance on the secondary market will also be muted, as we expect CDR prices in the first few days of trading will quickly hit their daily price limits, which will result in very little actual buying and selling taking place.

But when this period ends we are likely to see spillover effects in other sectors of the stock market as investors, especially retail investors, are expected to sell some of their stocks to buy CDRs. This will be most visible on the first day that CDRs don't hit the limit on daily price movements set by the regulator. We see the Foxconn Industrial Internet Co. Ltd. IPO earlier this month as a reasonably good guide to what will happen with CDR issuance. Shares rose by the allowed daily limit of 44% on on June 8, the first day of dealings, and then by the daily 10% limit for two more days. Trading volume was less than 1% of the free float on the first three days and then jumped to more than 31% on June 13, the first day the shares didn't rise by the daily limit.

Weekly Roundup

Macro & Finance

China’s economic growth showed signs of losing steam in May as expansion in fixed-asset investment, industrial output and retail sales all trailed analysts’ estimates, government data released on Thursday indicated.

China’s monthly new total social financing, the country's broadest measure of credit, was the lowest in 22 months in May, reflecting a regulatory clampdown on off-balance-sheet shadow loans to rein in financial risks.

China’s financial deleveraging campaign must consider the ability of financial institutions and the market to absorb the impact of tightening policies, while the illusion of any potential government bailout must be shattered, China’s top banking and insurance regulator said Thursday.

China’s securities regulator is working on measures to help increase Chinese stocks’ weighting in the influential Emerging Markets Index published by MSCI Inc., Fang Xinghai, vice chairman of the China Securities Regulatory Commission, said Thursday.

China published revised rules Tuesday to ease restrictions on foreign investors using the QFII program in the country’s latest move to liberalize its domestic capital markets.

The rising tide of defaults on Chinese corporate bonds has made investors wary of new issues, making it even harder for indebted businesses to obtain fresh funds.

The issuance of local government bonds increased for at least the third straight month in May, market data showed, fueling concerns that the boom may siphon funds available to buy corporate debt and worsen the already tight credit environment for companies.

The China Banking and Insurance Regulatory Commission (CBIRC) has given city and rural commercial banks until the end of 2019 to classify all loans more than 90 days overdue as NPLs, but some local regulators are requiring lenders to comply even earlier, an employee with a city commercial bank in eastern China told Caixin.

China has decided to shift money from provincial-level pension funds to create a national pool to address growing pension deficits in poorer regions.

Companies

Chinese smartphone maker Xiaomi Inc. said Thursday that at least half the shares in its planned initial public offering (IPO) will be sold through Chinese depositary receipts (CDRs) on the mainland market, with the remainder being offered in Hong Kong.

Shares of telecom-equipment maker ZTE Corp. bounced back slightly in Hong Kong on Thursday following a massive sell-off the previous day, as the stock resumed trading after the company settled a dispute with the U.S. that had threatened the company’s existence.

Several of Qudian Inc.’s shareholders have cashed out since the Chinese cash-loan company posted worse-than-expected financial results for the first quarter, as regulators rein in China’s online lending industry.

Ren Deqi, a former vice president of the Bank of China, was named new president of the Bank of Communications Monday, filling the post after former President Peng Chun was named the bank’s chairman in February, Caixin learned.

Calendar

June 19: The State Administration of Foreign Exchange releases Chinese banks' foreign exchange purchases and sales for clients in May