The US Senate passed a Bill that could delist Chinese companies from US exchanges. I have two Chinese stocks in my portfolio and they are less than 5% of my portfolio but it is important to address this issue since I've been telling you that now is the time to invest in China. How safe is investing in China?
All this troubles started when Luckin Coffee $LK , the Starbucks of China, manipulated their sales numbers and was delisted from the NASDAQ. Chinese companies don't go through the same auditing as US companies and that's why the Senate passed this bill.
Let's first understand how Chinese companies are listed on the Nasdaq or New York Stock Exchange. Usually, for a foreign company to be listed in America, they have to go through an American Depository share (ADS) or American Depository receipt (ADR). ADS and ADR are the same thing. When a foreign company wants to be listed in America, a custodian bank is going to buy their shares on their home exchange and then create ADS, then sell these ADS on an American exchange. This is something normal and safe since the ADS are linked directly and are backed by the real shares. If the real shares pay dividends, the ADS will also pay dividends. There are some Chinese companies that uses this, for example, China Mobile.
There are Chinese companies, however, which cannot go through this process because of Chinese regulations and they us a VIE (Variable Interest Entity). For example, Alibaba $BABA as a Chinese technology company cannot be listed in America according to Chinese laws. They then created a subsidiary in the Cayman Island. That subsidiary is the VIE. When you buy shares of Alibaba on the NASDAQ, you're actually buying shares of the VIE and they are not backed by the real shares in China. This is very risky since any regulations that ban VIEs would give you zero ownership to the real company. JD.com is a VIE that owns other VIEs. This is even riskier.
Regulations are important since they protect investors from scams and companies which are not manipulating anything should not worry. The Bill also targets companies partly owned and controlled by foreign governments. This is a little confusing to me since it will also affect companies outside China such as Brazilian oil company, Petrobras.
How does this affect you if you have investments in China? I have two Chinese stocks in my portfolio, China Mobile $CHL and Qudian $QD . China Mobile is 75% owned by the Chinese government so it could be affected by the regulations. Qudian is a VIE, which had its own accounting scandals. Both of them will be affected. But I'm not going to sell. We need to wait and see what happens. On eToro, the shares will just be liquidated if they are delisted. On other brokerage accounts, they may be traded as pink sheets.
If the Bill is passed, it creates an even bigger problem, ETFs. What happens to them?
Ray Dalio said that now is the time to invest in China and that not investing in China is very risky. Even Charlie Munger is very bullish on China. Should we invest in China? I believe we should. Even if Chinese companies are delisted in America, they will still be traded in Hong Kong or Shanghai. You always need to be careful when analyzing companies. If the numbers look too good, there may be something wrong. It is the same thing for US companies. You always need to be careful.
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