- The launch of China’s Nasdaq-style technology board, ‘STAR’, was greeted with much market enthusiasm, with the highest stock rising by over 400%.
- The market is an opportunity for the Chinese regulator to experiment with major mechanisms that differ from the main bourses.
- The market is still in the process of price discovery in this new environment, as demonstrated by the fall in prices from the first day gains and drop in daily turnover. It is therefore important to take a long-term view on opportunities.
On 22 July, China launched a new Nasdaq-style technology board — the Science and Technology Innovation Board, or ‘STAR’ market — on which the first batch of 25 companies listed, raising US$7.1 billion. Around 140 science and technology companies have signed up on the facility run by the Shanghai Stock Exchange, targeting a total of US$18.7 billion. The first movers ended the first day trading on average 140% up, a scenario that would not occur on the other main stock exchanges.
The most significant jump was an increase of over 400%. On the STAR board, there are no limits on share price movements for a stock’s first five days of trading, with daily price move rules (limit at up to +/-20%) kicking in after this. In contrast, the Shanghai and Shenzhen exchanges allow stock prices to move by a maximum of 44% on their first day of trading and thereafter up to 10%. The IPO price is also no longer subject to an unofficial cap of 23 times the price-toearnings (P/E) ratio, while there is also greater flexibility in daily trading limits.
A pilot programme for reform
The STAR facility is an opportunity for the Chinese regulator to execute major mechanism experiments that differ from the main bourses before implementation elsewhere. This capital-market reform, in our view, is another step toward a more open and market-driven equity market, as opposed to being influenced primarily by government policy.
It is expected there will be a shortened time for the listing process, with a registration-based listing system, as opposed to a government regulatory approval model applicable to the main boards. In 2018, 143 companies went public on Hong Kong’s main board, compared to 105 on the A-share market including both Shanghai and Shenzhen stock exchanges, according to figures from PwC1. Last year, IPO volumes in Shanghai and Shenzhen decreased by 76% due to tightening in the regulatory approval process. The scope for new listings on the STAR board, given the new process used, is clear.
Alongside this, companies can list that have not yet turned a profit and there are relaxed requirements on share classes. This includes allowing dual-class shares, that preserve founders’ control over operations, to list. There are also stricter delisting rules in place compared to the main boards.
2018 IPOs by stock exchange
|Hong Kong main board||Hong Kong GEM||Shanghai A-share||Shenzhen SME board||Shenzhen ChiNext||Taiwan||Total|
|No. of IPOs||143*||75||57||19||29||31||354|
|% of total||40.4||21.2||16.1||5.4||8.2||8.7||100|
|Funds raised (US$ billion)||36.1||0.7||12.7||3.3||4.2||0.5||57.5|
|% of total||62.8||1.2||22.1||5.7||7.3||0.9||100|
*Including listing by introduction and switch from GEM to main board without raising funds in Hong Kong: 13 in 2018.
Source: PwC research.
Increasing investment appeal and foreign investor participation
Against a backdrop of the wax and wane of tensions between China and the US, it is clear the superpower is driving towards earning a reputation equal to its size as the world’s second largest equity market. The launch of the STAR board aims to get more tech companies to list at home rather than abroad and to encourage investment in these businesses.
Part of this capital-market reform is towards increasing institutional investor allocations, promoting international investment and reducing the dominance of retail investors in China. The aim, therefore, is to lower speculative activity and drive the credibility of its stock market in order to reduce headwinds for investment activity, such as significant market volatility and governance potholes, creating a healthy equity capital market for long-term investors and corporates. The STAR facility only permits investors with a trading account balance of at least RMB500,000, alongside two years of trading history. The Shanghai Stock Exchange estimates that only 3 million retail investors are qualified for this requirement. Also, IPO allocation is more favourable towards institutional investors, compared to main board listings. For STAR, institutional investors are categorised into three tiers in general and QFII investors, which includes asset managers, are one of these (as opposed to no preference at all on the main board), increasing the possibility of share allocation.
This debut indicates, in our view, the potential development of the equity market over the long term and how this could look in the future. It reflects China’s ongoing transformation, which is being driven by efforts towards reform and innovation in the economy. One part of this is rivalry with the US in technological prowess, as discussed in a recent podcast. Alongside such developments as the inclusion of China A-shares in the MSCI and FTSE Russell indices, the debut of the STAR board creates a fertile hunting ground for international investors to invest in mainland Chinese stocks.
There has certainly been plenty of market excitement around the launch of STAR board, likely due to momentum chasing alongside an imbalance between supply and demand (many domestic funds were set up to participate in IPOs on STAR). It is important to take a pragmatic view, as many of the companies that listed are yet to prove their business models are sustainable and that they can generate positive shareholder returns. This is reflected in the prices of the first movers coming off since their launch on the market, evidencing the importance of taking a long-term lens when analysing these companies as more companies list. The market is still in the process of price discovery in this new environment and this is likely going to take some time.
China continues to represent an expanding universe of investment opportunities, with value increasingly emerging. This is most evident in the short-term market pullbacks, with sentiment driven by the ongoing China-US trade negotiations. The dominance of retail investors in Chinese equities – and their short-term, momentum-driven mentality – creates unique opportunities for disciplined fundamental investors with a view on the long term. We believe a consistent high-conviction investment strategy focusing on stocks that offer decent quality, reasonable valuations, positive earnings and price momentum is the best way to capture these opportunities and deliver long-term risk-adjusted returns to our investors.