Words must translate into action for China’s rally to continue

Stocks in Hong Kong and China pause Friday after an intense two-day rally, the strongest since the results of the 1998 Asian financial crisis. The Hang Seng is up 15.9% despite falling by 0.4% today. But it was the battered tech and consumer sectors that saw the most surprising gains.

The Hang Seng Tech index rose 31.7% on Wednesday and Thursday combined. Large caps like Alibaba Group Holding (BABA) (HK:9988) gained more than a third, up 38.3% despite a 3.6% correction today. Its e-commerce rival JD.com (JD) (HK:9618) is up exactly half, 50.7%, even after falling 4.2% today.

This means that Alibaba’s market capitalization suddenly increased by $80 billion. He added all the value of a company like Ford (F) or Uber (UBER) in two days, with an additional 20% to sell.

Does that make sense? Not when looking at profitability or business sales, no. Trading has nothing to do with fundamentals and everything to do with public policy. Official statements from Beijing and Shanghai drive prices up. We are now waiting for Chinese policymakers to deliver on their promises.

It’s a respite for investors, a great week after a wild 18 months that sent the same stocks further south. Alibaba fell 77.0% from peak to trough, with its shares in Hong Kong falling from HK$309.40 to HK$71.25. JD fell 61.4% from HK$419.80 to HK$161.90. The performance of US quotations follows the movement.

The Hang Seng was the worst performing stock market in the world last year and still sits 27.3% below its levels of last summer. Stocks would not have been so lackluster in the first place if not for the heavy hand of the mainland government.

It’s great to hear that US and Chinese regulators are working on a compromise that would allow Chinese companies to continue to be listed on Wall Street. Liu He, one of China’s vice-premiers and its chief trade negotiator, said a deal was in the works. He also told a Chinese cabinet committee meeting that Beijing will offer policy support to capital markets, as I outlined on Wednesday. Now investors will want proof.

The most notable aspect of the comments from Liu, President Xi Jinping’s top economic adviser, is that they suggest that economists and regulators within the ranks of the Communist Party are regaining control. A string of emotional market pronouncements and legislative changes in the name of Xi’s quest for “common prosperity” over the past 18 months have signaled that the president cares little for capitalist concerns.

It wouldn’t normally make headlines to hear the meeting conclude that “the most important thing is to insist that development is the party’s first priority”, but that became dubious. These comments “seem to be the strongest we’ve heard from Beijing in recent times suggesting support for growth and financial markets,” according to equity strategists at Nomura. “Certainly these comments need to be followed by action,” the strategists add, though Beijing “has likely put a floor under Chinese stocks for now.”

Concretely, literally, we learn that the Chinese Ministry of Finance has decided that the national deployment of a property tax has been suspended. “There are no appropriate conditions this year” to push the tax beyond a pilot program, the official Xinhua news agency said, citing an official. A property tax has been in the works for years and has been tested for a decade already in Shanghai and Chongqing. But the ministry has now decided it will not follow through this year on the government’s statement last October that it would extend the tax elsewhere.

Terms are not suitable due to other government policies. Beijing is forcing deleveraging in the real estate sector by requiring developers to place themselves under “three red lines” limiting the amount they can borrow. Sponsors must maintain a Liabilities to Assets ratio below 70%, a Net Debt ratio below 100% and a Cash to Short Term Debt ratio above 1x. It forces the whole industry to redesign its way of pouring concrete; only 6.3% of Chinese developers could meet the three red lines at the time of introduction, S&P calculated. It’s a painful debt reduction program that makes construction very difficult for developers.

Property, education, entertainment, e-commerce, food delivery, Big Tech in general – they all saw policy changes that caused wild market swings, and investors had no recourse. Entire industries such as private after-school tuition have been scrapped as the Communist Party in July 2021 ordered the sector to become non-profit. It destroyed a US$120 billion industry. “Beijing directors are finding new ways to scare off investors every day,” I pointed out at the time, and the companies affected have not recovered, even in this week’s rally.

Two listings on the New York Stock Exchange in China’s education sector have taught us a painful lesson. TAL Education Group (TAL) is still down 98.3% from highs set in February 2021, when whispers within party ranks suggested there would be changes for in-store tuition centres. Shares of New Oriental Education & Technology Group (EDU) are down 94.5%. Analysts predicted there would be adjustments on the edges of the sector, a call that turned out to be very wrong. Nomura said an extreme case “will NOT happen” and the bearish scenario described in some reports will not happen because “the industry will be devastated”.

He is devastated. There were none of the months-long comment periods that a regulator such as the United States Securities and Exchange Commission would offer industry participants before making a significant regulatory change. Instead, we fed on breadcrumbs of sayings from official meetings ahead of a weekend announcement that tutoring in China would change this Monday. TAL and EDU remain penny stocks, bouncing around their bottom.

China has long since ceased to be a communist country in practice; it has become a capitalist nation with a dictatorship at the top (many of whom are incredibly wealthy themselves). Xi acknowledged this fact. His attack on “the disorderly expansion of capital” constituted an attack on this capitalist framework, once again throwing China into an era of Maoist-style programming. Xi Jinping’s thought has more in common with Mao Zedong’s thought than the pro-market reforms begun under Deng Xiaoping.

But Mao thought largely championed the peasantry, a rural revolution to defeat “decadent” modern society. It’s not exactly structured to accommodate the needs of e-commerce, courier delivery, and residential complexes with dozens of skyscraper towers that now house the majority Chinese urban population. Two-thirds of Chinese live in cities, according to the latest census; Twenty years ago, the situation was reversed, with two-thirds in the countryside.

As a result, Chinese communist theory clashes with Chinese communist reality. Even the zero-Covid strategy pushed so strongly by the central government requires work. This week, we heard Xi for the first time that it is important to control the Covid “at a lower cost”, and that it is necessary to “minimize the impact on socio-economic development”. There has been no mention of the economic costs in the past when entire towns were shut down.

I doubt the stock markets will be top of mind when Xi and President Joe Biden meet on Friday, as they are supposed to. Biden plans to warn Xi to offer support to his Russian counterpart Vladimir Putin, at a time when Beijing’s silence on invading Ukraine amounts to tacit support. China is walking a tightrope, likely surprised by Putin’s ferocity in Ukraine, and even more surprised by the fierce resistance Russian troops have encountered. The longer the war drags on and the worse Western sanctions against Russia become, the more pressure China has come to keep its promises to its ally, a friendship that in February Putin and Xi said had not “no limits”. And the more sanctions China would face if it helped.

Investors should hope, however, that Xi is focusing his efforts on politics and international relations. Another key line from the cabinet meeting this week is that “any policy that has a significant impact on the capital market must be coordinated in advance with the financial management department, in order to maintain stability and consistency of policy expectations. “. Regulators and economists must have their say.

It’s dry language, but stability and consistency – not $80 billion swings in the value of your biggest tech name, or 50% gains in the stock price of one of your biggest large corporations – are what the Chinese markets need right now. We’re about to look not at how companies are performing, but what decision makers will say, and more importantly do, next.

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