How can investors navigate Chinese stocks after regulatory crackdown?


China’s rapid economic growth is a boon to investors, but recent regulations on Chinese stocks listed on US stock exchanges could…

China’s rapid economic growth is a boon to investors, but recent regulations on Chinese stocks listed on US stock exchanges may cause some investors to pull out.

In particular, major tech companies are under scrutiny, which has affected investors through falling stock prices and botched initial public offerings.

But savvy investors should not shy away from fear. If you want to add these big Chinese companies to your portfolio, it makes sense to understand how to manage the risks associated with these regulatory changes. Here’s what you need to know about Chinese fintech stocks amid regulatory developments:

– Regulatory repression in China: what’s going on?

– How Chinese equities have been impacted by regulatory changes.

– How should investors approach Chinese equities after regulatory crackdown?

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Regulatory crackdown in China: what’s going on?

China’s tech sector has recently come under intense regulatory scrutiny. Many of the country’s leading technology companies, including Alibaba Group Holding Ltd. (ticker: BABA), Tencent Holdings Ltd. and Inc. (JD), have been the subject of antitrust investigations.

The State Administration for Market Regulation, or SAMR, a Chinese regulator responsible for overseeing market competition, fined e-commerce giant Alibaba $ 2.8 billion for alleged anti-competitive practices in April. The investigation determined that Alibaba had used its position as an e-commerce powerhouse to force merchants to sell exclusively on its platform.

As China contemplated threats of monopoly power from Alibaba, its anti-competitive concerns grew. The antitrust investigation went beyond Alibaba and examined other Chinese e-commerce companies including Tencent,, Baidu Inc. (BIDU) and many more.

In April, the Chinese government put in place new fintech regulations for the online industry, which ultimately hurt the value of Chinese fintech companies.

In July, Didi Global Inc. (DIDI), a ridesharing app, went public. The day after the initial public offering, cybersecurity regulators announced a review of Didi’s data privacy policies, and investors began to worry about investing in Chinese stocks. Didi responded by saying he had received mixed messages about going public. As a result, the app was removed from the app stores and the stock dropped by 20%.

With market uncertainty plaguing the sector, the rest of Chinese internet stocks fell along with Didi in late July.

More generally, China’s response concerns a greater backlash against fintech companies and their immense power potential. This industry is growing so rapidly that it is difficult for countries to keep up with regulations, which is why investors see more control over Chinese companies.

Brendan Ahern, chief investment officer of KraneShares, an investment firm providing investors with China-focused exchange-traded funds, says Chinese e-commerce companies now account for 30% of all retail sales. Chinese policymakers see these companies as essential to the domestic consumer economy and, for this reason, see the need for some oversight.

These companies are important to the Chinese economy and can even perform some of the functions of banks. But without proper regulatory oversight, questions about user data and privacy practices have arisen among Chinese authorities.

[Read: Economies of Scale: 3 Industries That Benefit the Most.]

How Chinese stocks have been affected by regulatory developments

In general, volatile movements in asset prices inspired by regulatory news weigh on stock market sentiment.

“Markets and investors hate uncertainty,” says Ahern. It’s unclear what the next step is and when this regulatory control over Chinese companies will end. This put pressure on the stock price. For there to be some relaxation in this segment, more clarity is needed on regulatory expectations.

As a result of the antitrust investigation, Alibaba had to pay billions of dollars in fines, impacting its stock price, which is down around 16% year-to-date. .

Like Alibaba, the Chinese food delivery platform Meituan has also been the subject of SAMR’s antitrust investigation and could be fined $ 1 billion as part of the anti-monopoly campaign.

Didi made a controversial IPO in the United States in June. The company finally decided to go public while being advised by China to wait. Following Didi’s IPO, the Cyberspace Administration of China, a Chinese technology regulator, announced that Didi had broken data laws. The Didi app was pulled from app stores in China, and the stock fell 20% that day.

“The entire Chinese fintech industry has lost 30% of its value,” said Kevin Carter, investment director of the Emerging Markets Internet and E-Commerce ETF (EMQQ). “He’s growing up again, and he’ll get that value back, I think, but it’s going to take a while.”

Investors may think that because stock prices have gone through dramatic swings, there should be some concern. But fundamentally, companies haven’t been hurt, experts say. “What drives stocks down is sentiment, as opposed to fundamentals,” Ahern said.

Ahern says Chinese fintech companies have strong cash flow, revenues, and revenues, so there is little to no concern about the ability of companies to stay competitive. They shouldn’t be seen as having trouble paying their debts.

“Because companies’ fundamentals remain strong, they have been able to adhere and adapt to regulation without impacting balance sheets,” says Ahern.

Among these fundamentals, there is a growing clientele. “As many conceptual stocks in China fluctuate in the coming weeks, due to the earnings season, among other factors, there is one thing that should not change: the demand for the goods and services provided by these companies,” said Ivan Platonov, research director of EqualOcean, a China-focused investment research firm based in Beijing. “Most of the Chinese companies listed in the United States dominate their segments domestically, with top-notch talents and capabilities. This core value is likely to bring back public capital soon.

Over time, experts say, the Chinese will continue to enforce the regulations. This regulatory hike will not only come from China, but will also be followed by other countries.

[See: 8 S&P 500 Stocks to Buy With the Most Upside.]

How Should Investors Approach Chinese Equities After Regulatory Crackdown?

Investors may wonder whether they should move away from Chinese stocks or increase their positions during this regulatory crackdown. A rational approach that market participants can take with investing in Chinese equities is to manage their regulatory risk.

To mitigate regulatory risk, experts say, investors should think about how these Chinese companies can protect themselves against further regulation in their industry.

Kevin Worner, CEO and founding member of ChineseAlpha, a Shanghai-based equity research firm, says those investing in the Chinese market or interested in Chinese stocks should look to own companies that adhere to strict laws in antitrust and data protection.

“These companies are expected to hold less than 50% market share in their respective industries and should invest in increasing data security for their Chinese user base,” he said.

You can also invest in companies with strong data protection and regulatory capabilities, Worner adds.

“These companies will likely be mid to large cap companies that have the resources to invest in data security and protection, as well as partners who have regulatory experience, which can advise the company to navigate the market. changing political environment, ”Worner said.

Additionally, if you want to mitigate antitrust risk, Worner says, you can invest in alternative companies that may not stand out as leaders in their respective industries.

Investors may want to be aware of how they are diversifying with Chinese stocks and make sure they don’t have an oversized position in a particular name. This is why Ahern says that buying stocks incrementally over time or the average dollar costs of Chinese stocks can be a good strategy. “You never want a position to be so large that it might have a correction that would prevent you from completing that position,” Ahern explains.

Although the regulation has raised some concerns from investors, there are still massive inflows into Chinese companies.

Foreign direct investment flows into Chinese investment reached $ 98 billion in the first quarter of 2021, roughly three times the inflows over the same period in 2020, with China’s total direct investment inflows rising. is going to reach new all-time highs this year, according to data from the Peterson Institute for International Economics.

Carter says now is the time for investors to increase their positions in Chinese stocks. “You buy fear and sell greed,” he says.

Global investors are piling up in Chinese investments as the tech sector continues to develop and accelerate the country’s economic expansion. This setup has created a market where investors see new growth opportunities. For example, EMQQ’s allocation to China is slightly above 60% in a portfolio highlighting the growth of Internet and e-commerce activities in emerging markets.

“The best way to invest in China’s growth is with Internet companies,” Carter said.

China has a significant weight in the emerging markets index and its e-commerce market is huge. In particular, Chinese internet stocks and tech companies are where value is created and growth is found. However, investors should keep in mind that regulatory risk is very real.

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