Bear Market Mauls High-Tech CDRs
Of the many places I’ve lived and visited over the years, China has to take the prize as land of déjà vu for business trends. That’s probably because its market economy is so young that the concept of learning from your mistakes has yet to really sink in. As a result, it really does feel like you often see the same patterns and mistakes getting repeated time and again, even though people should really know better.
I got my latest taste of this particular made-in-China syndrome this past week when media began reporting that the Chinese depositary receipt (CDR) system, after being highly hyped earlier this year, was rapidly losing steam. The system was modeled after the similarly named American depositary receipts (ADRs), which allow stocks that trade in one market to make a second listing in the U.S.
In this case, the idea was that China would allow a select number of the country’s top high-tech names that are listed offshore, such as Alibaba and Baidu, to make second listings using CDRs so their shares would become available to domestic investors. The plan was the talk of the town for the first half of the year, with regular headlines claiming to have the inside track on who would be first to offer CDRs.
At one point, Alibaba was mentioned as a leader, only to get eclipsed by an even-more eager Baidu. The last upbeat report on the subject had smartphone maker Xiaomi at the top of the list, with plans to make an IPO in Hong Kong with a concurrent CDR offering in Shanghai.
And then the wheels suddenly fell off the cart. Tech fans will know that Xiaomi made its highly anticipated trading debut earlier this week, and nowhere was any mention of CDRs. As the wheels were coming off the Xiaomi cart, reportedly due to differing views between the company and the regulator on valuations, Baidu suddenly surged to the top of the CDR list. But then Baidu, too, dropped out of sight, for reportedly similar reasons.
At this point, the CDR program appears to be in a state of suspended animation, and it’s unclear when it might come back to life. I’ve polled a few of my contacts who have followed this plan, and I got a wide range of predictions, which I’ll detail shortly. But the bottom line is that no one really knows, including the companies and regulators who will ultimately decide whether CDRs live or die.
So where does the déjà vu come in, and what might earlier cases tell us about the prospects for a CDR revival? Old-timers might recall a similar plan for an International Board was hatched almost exactly a decade ago, and quickly became the toast of the town back then.
Similar to CDRs, the plan was designed to make shares of international companies available to Chinese investors, led by names like British banking giants HSBC and Standard Chartered, which did big business in China. Others, like PC giant Lenovo and leading wireless carrier China Mobile, were also eyeing the new board, since such Hong Kong-listed “red chips” are registered offshore and thus ineligible for listings on China’s two main domestic boards.
First the International Board, and now the CDR plan a decade later, were both victims of the same issue: market volatility. In the International Board’s case, the market peaked in late 2009, just when the plan was gaining momentum, and then embarked on a steady downturn that would see it decline more than 40% over the next five years. The case is similar this time, with the Shanghai Composite Index falling more than 20% from its 2018 peak last month, officially taking the market into bear territory.
It’s no secret that Beijing leaders are extremely squeamish about such downturns, since they can wipe out huge amounts of money among the nation’s legions of mom-and-pop investors very quickly. The squeamishness runs so deep that such downturns have been known to result in suspensions of new IPOs, and other measures like government calls for big institutions to buy up shares to support the market.
Thus the CDR derailment appears to be the direct result of government unease at the bear market, since new IPOs by big tech names like Alibaba and Baidu could further undermine things by drawing away billions of dollars into these new listings. It doesn’t help that the regulator is apparently demanding that CDR candidates set their prices artificially low, something it regularly does, and that only big names with market values of more than 200 billion yuan ($30 billion) are eligible to participate.
The only way to really say where things might be headed is to predict when the main stock markets might stabilize, since that’s the foremost factor in Beijing’s mind. The bears might argue there’s still plenty of downside, in which case CDRs could get shelved indefinitely. One of my contacts cynically forecast the plan will get shelved through at least the end of this year, and could well follow in the footsteps of the earlier International Board and die a quiet death.
Most of my contacts weren’t quite so bearish, at least not yet. Many pointed out that Beijing really wants the plan to work, since it’s slightly embarrassing when your best-known companies are all listed overseas and thus unavailable to your own investors. Most agreed the volatility will need to end before CDRs can get another serious shot, which would indicate a year-end launch at the very earliest.
I am personally on the fence, and may even lean toward the cynical view that CDRs may ultimately end up like the International Board. My cynical contact put it nicely by noting that CDRs may not even be necessary, since names like Alibaba and Tencent are already available to many mainland buyers through a growing number of newer trading platforms. “It looks like a solution to a problem we didn’t really have,” he pointed out.
Doug Young has lived in Greater China for two decades, including a 10-year stint at Reuters, where he led China corporate news coverage. Send your questions or comments to DougYoung@caixin.com
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