International investing can be enriching, literally and figuratively, but it must be done selectively and only after conducting a great deal of due diligence. Sometimes, a big change – or the lack thereof, in China’s case – can make investing abroad challenging and unprofitable.
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What U.S.-based financial traders need to remember is that the climate for businesses in China is quite different than it is in America. In a nation where collectivism and loyalty to the state are prioritized, one can’t simply assume that competition and free markets will be encouraged or that market-critical information will be readily available or accurate.
Amid this sometimes murky and confusing backdrop, China recently marked a historic moment – and yet, the nation’s technology-focused business isn’t likely celebrating now. So, before you embark on a dip-buying expedition based on rock-bottom equity prices, be sure to bone up on China’s political pitfalls, as they’re bound to impact every investor’s profit-and-loss profile.
Xi Cements Control
In the U.S., a two-term presidential limit is written into the nation’s Constitution. In China, however, the rules were recently shown to be more “flexible,” as President Xi Xinping (commonly referred to as just “Xi”) secured a third term.
You’ve surely heard the word “unprecedented” used many times since the onset of COVID-19. You’re going to hear it again as Xi cements his leadership position, though it might not be strictly accurate in this instance. By confirming his third term, Xi will be China’s longest-serving president since Mao Zedong.
As you may recall, China under Xi has been security-focused to the point of being business-restrictive. Xi was in power as Beijing halted the IPO of Ant, the financial-technology affiliate of e-commerce giant Alibaba (NYSE: BABA). Around that same time, China’s government under Xi launched an antitrust investigation into Alibaba, along with a broad-based, security-centered crackdown on the country’s biggest internet firms.
This isn’t to suggest that other nations, including the U.S., don’t enforce antitrust and national-security regulations. Indeed, U.S. regulators have considered delisting a number of China-based businesses from American stock exchanges. Thus, the ongoing Sino-U.S. tensions are already enough to dissuade some cautious investors from venturing into U.S.-listed Chinese stocks now.
That’s perfectly understandable, as the delisting threats aren’t always top-of-mind in the financial headlines, but they never really went away completely. Plus, there’s the lingering threat of a Chinese invasion of Taiwan, which undoubtedly would incur a swift response from the White House and fray the already tenuous relations between the two world powers.
China’s Market Rout
Confirming Xi’s third term at the 20th Chinese Communist Party Congress resulted in more than one relatively “unprecedented” event taking place. Sure, it meant that Xi would break with the nation’s two-term tradition. However, it also resulted in Hong Kong’s Hang Seng Index, a major stock market gauge in China, closing down 6.4% on October 24 and marking its worst single-day decline since November 2008.
If you think that’s mind-numbing, get a load of this: The Nasdaq Golden Dragon index, which tracks U.S.-listed shares of China-based businesses, plunged 14.4% after Xi secured his third term. This was the index’s steepest single-day decline on record.
What does this tell us? The financial markets might be irrational sometimes, but they’re not ignorant. Traders know full well that another Xi term means a continuation of highly business-restrictive and sometimes unpredictable policies. It also means geopolitical uncertainty as Xi may still have his sights set on Taiwan; plus, he may now feel emboldened to tighten his grip on China’s already-struggling tech firms.
Knowing and fearing all of this, financial market participants promptly divested their shares of China-based companies, tech-focused and otherwise.
Understandably, investors are nervous about Xi’s political clout. Reportedly, China’s government has been stacked with Xi loyalists in practically every top position. Hence, any realistic chance of pro-market reform is effectively null and void.
Xin Sun, senior lecturer in Chinese and East Asian business at King’s College London, further articulated the market’s concerns. Specifically, Sun suggested it’s unlikely that anyone in China will challenge any “policy mistakes” that Xi might make that could inhibit growth in the country’s technology sector.
Takeaway: Play It Safe as China Faces Challenges
It’s one thing to invest in a U.S.-based business that had a rough quarter or two; it’s another matter entirely to venture into a tech market where competitive practices are hamstrung by all-powerful regulators. So, ask yourself: do you really want to bet on businesses that will have to fight an uphill battle against a sometimes business-hostile regime?
The problems besetting companies like JD.com (NASDAQ: JD), Tencent (OTC: TCEHY), and Alibaba don’t have to become your problems as an investor. There’s no need to wager on the growth of a group of tech firms, after all, in a region where growth isn’t necessarily the number one priority.
