Macroeconomy

An American sword of Damocles over Chinese stocks

US China

Legislation forcing them to delist from US exchanges leaves certain Chinese companies looking for alternatives.

On 2 December, the US House of Representatives passed the Holding Foreign Companies Accountable Act (HFCAA), which subsequently became law on 18 December.  HFCAA could force Chinese stocks to be delisted from US exchanges unless regulators are able to inspect their financial audits within three years. It also forces companies to disclose whether they are controlled by a foreign government.

 

The passage of HFCAA should be seen in the broader context of US-China tensions, which have recently spilled over into restrictions on capital flows, as illustrated by President Trump’s executive order of 12 November forbidding US persons from investing in the securities (or their derivatives) of companies deemed to be related to Chinese military activities. There are currently 35 companies targeted by the 12 November EO, with the latest four added on 4 December.

 

While HFCAA could have important implications for Chinese firms listed in the US, we remain relatively sanguine about its overall immediate effect on markets.   Although the pool of firms that could be impacted accounts for an important share of the MSCI EM and MSCI China indexes, we believe several factors should soften the blow for US-listed Chinese equities.

 

HFCAA includes a three-year transition period, which leaves time for investors to prepare and regulators to find common ground. Besides, most large ADRs that trade on US exchanges should be able to apply for a secondary listing in Hong Kong. Overall, we estimate that more than 90% of US-listed Chinese companies (on a market-capitalisation weighted basis) currently included in MSCI indices would be eligible for a secondary listing in Hong Kong by the time the earliest HFCAA de-listing kicks in. Smaller ADRs should be treated with more caution, with the risk that the lack of a fallback option pushes international investors to divest preventively.

 

Overall, although the immediate impact of HFCAA specifically should be limited in our view, challenging news flow and the ongoing rotation towards more cyclical equities globally mean we remain cautious on the short-term upside potential for the offshore Chinese equity market relatively to the overall emerging equity space.

 

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