The Threat of Delisting China

On Friday, September 27, it was reported that the Trump Administration:

…was considering investment curbs on China, such as delisting Chinese stocks in the United States.

This was considered an escalation of the trade war and sent all major Chinese stocks down dramatically. Alibaba (NYSE: BABA) was down more than 5% on that single day, and major China-related ETFs were down 2-4%:

ChartData by YCharts

However, we think the market has over-reacted on this threat, which in our opinion is more like a ploy to get more leverage in trade talks. It’s very unlikely that the idea of delisting Chinese companies will eventually materialize, and the short-term sell-off creates good opportunities for long-term investors.

Why We Think The Idea Is Not Realistic

There are a couple of reasons why we think this “delisting China” idea is not realistic:

First of all, it’s almost operationally impossible. Technically, Nasdaq and New York Stock Exchange are business entities that operate independently from the Federal Government. The U.S. Securities and Exchange Commission (SEC), which oversees publicly-traded companies and the stock exchanges, is also an independent agency that is not required to honor edicts from the White House. In other words, it’s outside the White House’s authority to force an order of de-listing a company from NYSE or NASDAQ.

One way that the Trump Administration could go is through the name of National Security. As stated by The New York Times:

The White House could unilaterally impose restrictions on the basis that American money is flowing to Chinese companies that pose a threat to the United States.

Unlike the case with Huawei, we think it will be very difficult for the White House to provide sufficient evidence in this regard, as the majority of Chinese companies listed in the United States can’t be categorized as “State-Owned” (according to USCC review on Feb 2019, 11 out of 156 Chinese companies listed in the US were state-owned). When the major shareholders of the company are individuals, venture capitalists, or even foreign investors (SoftBank (OTCPK:SFTBY) (OTCPK:SFTBY) used to be the #1 shareholder of Alibaba), we don’t think the national security argument is convincing.

Secondly, this looks more like a PLOY than a real issue. It’s reported that the next round of U.S-China trade talks will be held from October 10 to 11. The Chinese Communist Party has been celebrating the 70th anniversary of its rule since October 1, which is also a week-long public holiday for the whole nation. The Trump Administration chose to publish the idea at such a time point, makes it more like maneuver ahead of the trade talks, serving as a ploy to get some leverage.

Third, this will have more negative impact on the U.S. investors than on Chinese companies. As of the beginning of 2019, 156 Chinese companies were listed on American exchanges and had a total market capitalization of $1.2 trillion, according to the U.S.-China Economic and Security Review Commission. Considering that the overall market cap of major U.S. stock exchanges is about $30 trillion, kicking away all Chinese companies would bring a significant shock to the market.

Also, many Chinese companies listed in the U.S. markets are indeed top-tier players across many sectors in China. The U.S. investors have benefited from the business growth and share price appreciation from these companies during the past few years. We have seen more and more well-established indices starting to take Chinese companies into composition. Major funds, even some pension plans (such as Thrift Savings Plan, the retirement plan for government employees), are taking on emerging markets exposures including China. Just as we discussed in our previous articles on BABA, Sohu (NASDAQ: SOHU), and Changyou.com (NASDAQ: CYOU), these big Chinese names always have the option of going private and back to China for another round of public offering. That won’t hurt the company nor the management, but only the current U.S. investors who hold their shares.

Last but not least, this will hurt the “liberal” nature of the market. Just as a Nasdaq spokeswoman said,

One critical quality of our capital markets is that we provide non-discriminatory and fair access to all eligible companies. The statutory obligation of all U.S. equity exchanges to do so creates a vibrant market that provides diverse investment opportunities for U.S. investors.

With all these being said, we think the threat of “de-listing China” is more like a political ploy than a real business situation that will materialize.

Investor Takeaways

The short-term sell-off in the fear of this threat on Chinese stocks creates entry opportunities for long-term investors who still believe in value investing. Companies that have good fundamentals, competitive advantages and growth outlook are definitely worth considering at this point, such as BABA.

Disclosure: I am/we are long BABA. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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2019-10-06