Watch for Profit Opportunities in China’s Homecoming

By TradeSmith Editorial Staff

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In an article earlier this week, I pointed out the growing threat that leading Chinese tech stocks could vanish from U.S. exchanges.

Companies like Alibaba (BABA), Baidu (BIDU), and Weibo (WB) are in fact getting pressured from all sides. No wonder their shares listed here in the U.S. are all down about 50% from highs earlier this year.

And it’s not only regulators in Beijing who have taken issue with the variable interest entity (VIE) structure that many of these stocks use to list on our exchanges.

Here at home, the U.S. Securities and Exchange Commission (SEC) is threatening to delist Chinese stocks from the New York Stock Exchange (NYSE) and the Nasdaq Stock Market within the next few years if they do not comply with more detailed financial reporting standards.

The most glaring casualty from this situation is Didi Global (DIDI), the Uber of China, which just launched a $4.4 billion initial public offering on the NYSE in June.

But bowing to pressure from Beijing, Didi said this week that it planned to delist shares in the U.S. in favor of listing on the Hong Kong Stock Exchange by early 2022.

The Beginning of a Bigger Trend

It’s not the first big Chinese company to do so, and most likely won’t be the last given intense regulatory pressures from both sides of the Pacific.

But does this have to be a disaster scenario for these companies, as many seem to believe?

Maybe not. In fact, there is a big potential silver lining to the current regulatory storm, which could lead to gains for other Chinese stocks.

First, most of the news I’ve seen about this situation is bad. Beijing’s crusade against Chinese companies’ VIE listings in the U.S. seems to imply that China is willing to destroy its entire internet and tech sectors. That seems very unlikely.

After all, these companies are some of the largest, most successful, and most profitable technology companies in the world.

They represent great businesses that produce hundreds of billions of dollars in revenue and employ tens of thousands of workers, many of them Chinese citizens.

The Real Story on Chinese Stocks

I suspect that what Beijing really wants here is simply a “homecoming” for its blue-chip tech stocks.

Beijing’s actions to curtail Chinese VIEs listed in the U.S. are just thinly veiled attempts to compel these companies to list their shares closer to home, in Hong Kong or Shanghai.

And Washington’s attack on Chinese ADRs via new financial disclosure rules from the SEC is only helping to speed up this homecoming process!

Already, 16 of the largest U.S.-listed Chinese tech companies (including Alibaba, Li Auto, and JD.com) have also added Hong Kong listings, or “homecoming listings,” since 2019.

Just this week social media giant Weibo, considered the Twitter of China, launched a $385 million stock offering in Hong Kong, despite the fact that Weibo ADRs have been listed on the Nasdaq since 2014.

The truth is, Beijing wants to support its mainland China crown-jewel companies. It simply wants them to list shares in Hong Kong or Shanghai instead of New York.

In fact, regulators recently approved listings of two high-profile Chinese tech companies, artificial-intelligence company Megvii Technology in Shanghai and streaming music platform Cloud Village in Hong Kong, and both use VIE structures.

A Potential Profit Opportunity in Hong Kong

If this is China’s strategy, Hong Kong will become a hub for mainland Chinese firms looking to list their shares or relist their U.S. ADRs on the Hong Kong Stock Exchange.

And this is a huge potential profit opportunity.

As of 2021, there were 248 Chinese companies listed on U.S. exchanges with a total market value of $2.1 trillion. That means big business for Hong Kong and perhaps Shanghai as well in the years ahead!

One way to take advantage of this $2 trillion money flow is with ETFs that focus only on stocks listed in Hong Kong.

One that fits the bill is the iShares China Large-Cap ETF (FXI). This fund holds only stocks that are listed on the Hong Kong stock exchange, including Alibaba, Baidu, JD.com, and Tencent.

As I said previously, I’m personally not ready to take the plunge into Chinese stocks. FXI and many other ETFs that track Chinese stocks are in the Red Zone and still in confirmed downtrends.

Until I see a new entry signal from our system, I’m standing aside. But eventually these beaten-down tech stocks in China could present a compelling profit opportunity.