EqualOcean organized the WIM2022 event in New York City from July 29 to July 30, 2022. The following is the transcript of the Fireside Chat of China Globalization. Chris Marquis, Melanie Wong, and Bob Guterma are three guest speakers on this panel.
In our last article, we include the first part of our transcript of the Fireside Chat. The topic is China Globalization. The following is the rest of the transcript for this panel.
[Continued]Bob: Now of course this has not really happened in the worst-case scenario yet. However, things are kind of going alright still. There have not been any major blowouts. There has always been this concern that what I described might happen. There have been discussions in Beijing about revisiting the whole VIEs situation and of course, that freaks everybody out. The reason is that what if they say that is not allowed, all these Chinese companies listed in the US are basically thrown into a grey zone. Hopefully, trading will be ceased immediately. So, worse things do not happen. However, who knows what will happen? On the other hand, Beijing might come down and say that maybe VIEs are allowed. And they need special approval. Beijing is going to give everybody one to two years to get approval. Anyone listed already has a grace period to get approval. Any new listings have to go through this process. It would be a good thing, because now the system that we have relied upon would get a blessing of sorts. That is the context for all this. In my opinion, it is important for any meaningful amount of skin in the game. You need to know about this. You need to follow it. To me, the bigger issues at play with flows of capital are regulatory and political. I think it is difficult for private capitals, especially to cross borders. It still happens. There are PE funds of Americans doing deals in China every day. There are Chinese-based funds with western LPs doing deals in China every day and vice versa. There are China-based LPs doing deals. However, I think it is all still riding on the capital that has been raised in time periods prior until now. I do not know how much longer that can keep going, particularly as we see overseas listings being discouraged by the Chinese government. There are reasons that all those Chinese companies raised foreign risk capital to grow and listed overseas. Firstly, it was to pay back risk capital investors outside of China. So they could get their money out. Secondly, it was valuations were higher. So that benefited not only the investors, but the founders, and stakeholders in China. They got more money than if they had done it in China. Thirdly, going back to the currency thing, it is a free currency thing. If you get dollars, you can do whatever you want with them. It is easy to bring dollars into China relatively speaking. But if you IPO in China, you are holding something that is not transferrable. Who does not like optionality? Even the leaders of the CCP, though dedicated they are to China, must love optionality. We all like to have choices. If you are holding CNY, you have much fewer choices than if you are holding most other established currencies. I think that means that being forced to list on shore has to be a damper on overall attitudes. That does not mean that you do not want to innovate. If you make a USD 10 billion company and list it for USD 7 billion instead of USD 13 billion, it is going to be 7 billion. The whole mind frame is different. How that mind frame affects individual behavior and culture toward innovation and growing companies? To me, it is the most interesting question. I do not want to say that new policies coming from Beijing are going to ruin everything. However, I cannot see many ways it is going to be better or even the same. I think the energy levels have to be taken down a little bit.
Chris: Thank you Bob for the context and historical perspective. I think it is hard to access the situation unless you actually see how we got here. so that was helpful to understand those cross-border investment trends.
Discussion Q4:
Chris: I wonder Melanie if you could also provide some context around the topics and some other cross-border IPOs. What was your experience?
Melanie: Once again, when I was there, I was in a big fury to just get into China. How do I do business in China? And our ADR group had so many celebrations, parties, and investment meetings. At the time, there was some discussion, believe it or not, on whether corporate governance was to question that. However, businesses did not care at that time. It was not interesting at all. Therefore, there were so many ADRs. I do not recall what the index was for us. There was a huge ADR issue there. However, I do know that in 2007, they dropped probably 70%. I think as more corporate governance came to light, no one really paid attention. I think there were 50 jurisdictions that had to abide by those rules. However, Hong Kong and China were not. I think as this gets heavier, our discussions with how to delist or not delist. China has its own rules as well. They have their Chinese accounting rules. They have their Chinese gaps. In their mind, I am sure that they feel that means good. They believe that it is good enough. In general terms we are now, they do not care that the United States does not want them here. To see the change in them, was incredible. Everything was wide open. There was so much listing. Everyone wanted to get a piece of China, or other stocks that came on board. Even if you wanted JD or Alibaba now, you do not feel the same. As I said, the index has probably dropped 70%. This is the ADR division. Not only the Bank of New York but a lot of the other customer banks, there is just a lot less. It is not as robust as it had been.
Discussion Q5:
Leon: I am not in finance. I spend a little bit of time on Wall Street as a Ph.D. If you can look at Shanghai Stock Market Index, its performance is much worse than the S&P 500. In the meantime, the China economy has been growing much faster than the United States. What are the reasons for this?
Melanie: We have to look at the market size, and who can participate on shore. We go back to the regulatory problems with CNY and CNH. If you are an outsider, and you love it, you would have to invest through a vehicle that not be as much of an influence if you went out. A hedge fund comes here from the United States and decides to buy a million shares of the top 10 or something like that. You do not have that same volume of liquidity that you had in Shanghai. I know what you are saying. Everything looks great. It should be robust. However, you have to think about accessibility to liquidity. It’s limited. I cannot go in and buy a CNY myself and buy the shares. I would have to go through a vehicle or ETF or something like that, so that the impact is less. In the United States, it is more stable. It goes to the bottom of liquidity. I do not know the actual volume of individuals in Shanghai. However, in terms of size, if you do not have the big funds behind it to move the market, there might not be enough supply. One of the reasons I think they do list overseas is that you have so much more liquidity or access. People can get to it. People do multiple listings. It is more money for everybody. There is more accessibility and more liquidity. There could be a price arbitrage too in that sense.
Bob: You asked a question that is very close to something I often bring up when I am speaking about business in China or China’s economy. The fact is that Shanghai and Shenzhen stock markets are still down from their peak in 2007. This is unimaginable from New York, where markets have gone up in that same amount of time. Anyone with a retirement account, anyone with a trading account, any institutional fund, all the endowments, all the colleges, all the state pension funds, all this money are in a market that has gone up in the 15 to 20 years. And we take that all for granted. We take for granted all the wealth – institutional wealth, individual wealth, family wealth – has grown. If you were to buy ETFs in China or something similar in 2007, you would still be down. What does that even mean? Over 15 years, you would be down in your investment. That is a very bad view. Who is going to go into that market? If you had invested in the year 2000, you would be up 50% in 22 years. Whereas in the markets of the United States, you would be up about 300%. Therefore, who is going to invest in that even if you had the money? If you were in China, and you could not leave China, you would not do it. Most people would not. You would invest in real estate, which is where most of them were gone most of the years. You may invest in your friends’ company or your family members’ company. You could do a lot of things. However, you would not put it in the stock market. Now the bigger question is why is the government okay with that? Because in some ways, they created the conditions that allowed for them to happen. My two questions are why is the government okay with that? It’s clearly not a priority. The economy is doing very well. People are doing very well, mostly at least in certain cities. More than half of China is doing very well. However, the stock market is not. Why does the Chinese government not care? I think markets like that are something that they know is important but are not foundational to the fabric of society. I do not know if that will ever change. The second thing I think about this is that I do not know where I would find this information. However, I am going to talk to my team later today and see if we can create the information. Because I think it should exist. And I am sure banks have it in their hedge funders. Or people that do this all day long have their own sources on this. However, what I am deeply curious about is the quality of earnings of the Chinese government. The value of companies is based on multiple profits or expecting a future profit. Maybe, the low stock prices and valuations of companies are because people just do not think that they are that profitable or are not going to be. Do Chinese companies have a history of distributing or dispersing dividends to their shareholders that turn into real money or have most of it just been on paper? I think that would be a great place to look whenever you are looking at the value of a company, cash flow and profits, and how they get to you as a shareholder. I think maybe the answer lies in the fact that stocks in China have largely been a paper trading game. How much real profits have gotten to people from trading stocks in China? That would be a very realistic driver of depressed valuations of stocks as well.
Chris: It is interesting why this is not more a priority, because, clearly, GDP growth is a priority. It has increased by 8% to 10% on average a year.
Discussion Q6:
Chris: We have talked about this a lot. It was one of the biggest stories this past year. It may not be as sexy as day-to-day politics. However, foundationally, it is one of the most questions really. What is the leader of any country, representative of people, and what is going on with people are important in the long run? I do not think anyone can say what the future will be like. We talked about American exceptionalism and how different America is compared to everywhere else. I do not think that is the real story of the past 20 years or the next 20 years. I think Chinese exceptionalism is more interesting to me, because China has defied what people thought happened over and over again for a very long time. Economists have been saying for decades now that China’s economy has to blow up someday. And it keeps going. How has it kept going and will it continue to keep going? The thing about demographics is there is no way to fake it. There is no way to create policy. They are trying hard with the 3-kid policy. It does not matter. You cannot police your way out of this and invest your way out of this. It is like this cake is already in the oven. You cannot change the ingredients now because it is cooking. These demographic trends, as they are 30 to 50 years long, are almost always accurate. You can see what is going on with how many kids people are having today in the past 10 to 20 years. This stuff is like facts almost. Even though it is in the future, it is not going to change. It is a big problem because you are going to have a lot of retired people, fewer babies, and kids, and not many people income generating category. It is going to be a problem. And it is a big problem in a lot of countries by the way. But in America, we can immigrate our way out of any problem. We have to open the door a little wider. And then problem solved. And China does not have that option. They cannot immigrate their way out. There is no path to becoming a Chinese citizen if you are not one. To be fair, there are very narrow paths, but basically not really any. I do not think China’s economy would be very suitable for an extra 100 million people to come in from outside of the country. I do not think that is going to work politically. It is social stability-wise. And if those 100 million people have PhDs and get better-paying jobs than 100 million Chinese who do not have jobs, that is not going to work either. China cannot immigrate its way out, which America’s magic trick has to play in the future if we have this problem. There is no way to overstate how big of a problem this is going to be. I do not have specific examples of what that would look like. However, it is going to be major.
Melanie: If you compare it with Japan’s aging population, the tough time was 4 decades ago. If you look at that region, you have Indonesia and the Philippines. There are a lot of young generations that are growing. I do not know what they will do. With the onset of social media of having the world so much more at their fingertips with the internet, things could change. Now an opinion on the 3-child policy, I also believe that a lot of the folks on the mainland have not realized that it is great. The restriction is wide open. However, there are costs. It is no longer cheap. So now people are taking into effect what it means to raise a family of 2 or 3. Maybe that one child goes out of China. Or they relocate to a Western country. One of the things with Japan is there is no real reason to set up in Japan. From an economic point of view or business point of view, it is a bit difficult to have exporters there. In a pure business sense, you have exporters there. However, even then, that does not come off a lot. You do not have that draw anymore. That is a little bit of a problem, with the top two largest populations. And what does that means for China? They are not fully open yet. They can still patrol it. {robably there is a negative side to it. On the other hand, we do not know. In terms of Indonesia and the Philippines, there is a lot more youth there. They are very young. They are willing to learn. Let us see where that takes them. Maybe they will take it a bit more. I do not know.
Bob: There are two things that come to mind from what you are saying. First, I do not like some of the buzzword sentences or headlines you read about China. However, it is hard to avoid the middle-income track if you read about China’s economy. What the middle-income track means is that as that demographic curve becomes a weight pulling down the Chinese economy, the average Chinese person will not be rich yet. There will be low-middle to maybe middle-middle income. I do not know how that is defined by global standards. It is something like GDP per capita, such as USD 15 thousand to USD 20 thousand per person. And we are going to get there. Then this demographic thing starts to pull the economy down a little bit. In the case of Japan, because they are smaller, their ascendance has been so fast. It was faster than China in some ways after World War II. They got the same problem, with a little higher. They got to another level of the video game before the population thing happened. They reached upper-level income, which is higher income. And that allows certain social stability in Japan. If you get trapped too low down there, the big fear of stability will go down as well. The reason is that everyone who did not get to a high enough level economically will not be happy about how things are turning out. The other thing that comes to mind, which is abstract, is that when you were talking about the Philippines and Indonesia, there have been ways economies have performed way better than they could inside their borders in history. If you think about what England did, it grew from a little island to globally through an empire of colonies. There were companies that went to other countries and did stuff there. A lot of stuff was bad. However, it does not have to be bad. The companies could have gone. What if Chinese companies went to the Philippines and Indonesia, instead of importing all those immigrants into China which won’t work? They went there and said that “Hey, young people. Do you need a job? We are already a big company with a lot of money, and we are going to give you a job and take the profit back to China.” Because that is what companies do. That is a viable solution. Maybe that is underpinning a lot of Chinese efforts - build those bilateral relationships one by one with all those countries. I mean it is a pretty brilliant plan. That is why a lot of countries do not like to see China making such good friends.