Cablegate: China Financial Markets: Shenzhen Start-Up Board Rocking

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RUEHSH/AMCONSUL SHENYANG 0355
RUEHCN/AMCONSUL CHENGDU 0346
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UNCLAS SECTION 01 OF 02 GUANGZHOU 000006

SENSITIVE
SIPDIS

STATE PASS USTR FOR STRATFORD/WINTER/MCCARTIN/LEE
STATE PASS FEDERAL RESERVE BOARD FOR JOHNSON/SCHINDLER
STATE PASS SAN FRANCISCO FRB FOR CURRAN
TREASURY FOR LOEVINGER/MOGHTADER/CUSHMAN/VANHEUVELEN

E.O. 12958: N/A
TAGS: EFIN ECON CH
SUBJECT: China Financial Markets: Shenzhen Start-Up Board Rocking
and Rolling

Ref: A) 09 Guangzhou 216, B) 08 Guangzhou 214

GUANGZHOU 00000006 001.2 OF 002

(U) This document is sensitive but unclassified. Please protect
accordingly. Not for release outside U.S. government channels. Not
for internet publication.

1. (SBU) Summary and Comment: The long-awaited "NASDAQ-like"
start-up board, ChiNext, completed its first 2 months of operation
in positive territory after finally making its Shenzhen debut on
October 23, 2009. The new board opened by offering a first batch of
28 companies followed by another listing of 8 more firms on December
25, for a total of 36 listings by the end of the year. High
volatility characterized the first two months of operations as the
market remains small. The question remains whether ChiNext can
truly emerge as China's NASDAQ market for start-ups and high-tech
firms, or whether external competition to list Chinese firms
overseas and domestic regulators' unwillingness to approve new
applications will cause the new board to wither on the vine. End
summary and comment.

ChiNext Finally Makes Its Debut
-------------------------------

2. (U) China officially launched ChiNext, the "NASDAQ-like" start-up
board on Shenzhen Stock Exchange (SZSE) on October 23, 2009, after
repeated delays and regulatory hurdles (reftels). The board is aimed
at funding technology and innovation-driven start-up companies, in
line with China's plans to shift its economy from traditional
manufacturing towards innovative, higher-value industries. Among
the 28 firms that started trading on ChiNext on October 30, twelve
are in advanced manufacturing, four are pharmaceuticals companies,
six are information technology companies and the rest are service
providers.

Initial Performance Shows High Volatility
-----------------------------------------

3. (U) The first two months of ChiNext showed "W"-shaped performance
and demonstrated the speculative nature of China's equities markets.
On their October 30 debut, all 28 stocks gained at least 76% and
pushed price-to-earnings (PE) ratios as high as 150. So
overwhelming was the rush to buy that regulators temporarily
suspended share trading for each of the 28 newly listed companies at
different points throughout the day under special rules created to
rein in speculative trading on a firm's first day of trading.
According to those rules, a newly listed stock whose value
fluctuates more than 20% from its opening price will be suspended
from trading for a 30-minute cool down period before trading can
resume.

4. (U) The buying frenzy didn't last long. The second trading day
saw 20 of the 28 stocks fall by the 10% daily limit established by
the Shenzhen Stock Exchange and were suspended from trading for one
day. Fast forward two weeks and the market value of ChiNext had
fallen to RMB 127 billion (US$18.6 billion), or RMB 12.9 billion
(US$1.9 billion) less than its opening day peak, which represented a
short-lived trough for the new board.

5. (U) The market then returned to a more growth-oriented track and
celebrated its one-month anniversary at a level 3.24% above opening
day, at RMB 144.5 billion (US$21 billion). However, critics pointed
out that ChiNext performance was exceeded by the main boards in both
Shenzhen and Shanghai, as well as the new board's "brother" - the
Shenzhen SME board. The three other mainland boards recorded
increases over the same one-month period of 6.66%, 9.67% and 7.05%.

6. (U) On December 3, the market value of Chinext reached a new
high, exceeding RMB 160 billion (US$23.6 billion), its highest value
since opening day. In order to rein in speculative trading
behavior, the Shenzhen Stock Exchange implemented new measures to
restrict accounts that showed "serious abnormal trading." By
December 22, just days before the board opened trading for 8 newly
listed companies, the total market value of ChiNext fell back to RMB
127.5 billion, nearly reaching its previous low.

GUANGZHOU 00000006 002.4 OF 002

New Firms Listed
----------------

7. (U) A second batch of 8 companies was officially listed on
ChiNext on December 25. However, the first-day performance of the
new batch was not as noteworthy as the initial opening, with price
increases averaging less than 50%. Media commentary attributed the
less dramatic opening day to regulators' ongoing warnings about
market risks and irrational PE ratios of ChiNext, which many
analysts believe led investors to take more caution when subscribing
to the new stocks. ChiNext finished 2009 with a total of 36
companies listed on the board and total market value reaching just
over RMB 160 billion (USD 23.6 billion).

What's Next - More Listings but How Fast?
----------------------------------------

8. (SBU) Shenzhen's new board is expected to grow dramatically in
2010, probably in market value, and certainly in the number of
listed companies, but the pace of new listings troubles some
analysts. Some analysts, including Zhang Yidong of Xingye
Securities, criticized the slow speed of new listings, pointing out
that "right now a few wealthy individuals can shift a stock up or
down by its daily limit, but once the market has grown to 200 or
more companies the volatility will be reduced a lot." Supporters of
rapid growth also pointed out that the risks of market manipulation
and excessive speculation could best be reduced by substantially
increasing the number of new listings. A higher ratio of candidate
firms was approved in the initial set of listings -- 93.5%. Only
61% were approved in the second batch. If this represents a trend
in 2010, the slow pace of new listings could increasingly be a
concern.

9. (SBU) At the same time, the number of Chinese firms listing on
U.S. markets grew at the end of 2009 and show signs of even faster
growth in 2010, according to media reports. One such firm,
4-year-old Guangzhou-based budget hotel chain 7 Days Inn, listed on
the New York Stock Exchange in November 2009, spurning both the
Chinese and Hong Kong stock markets. 7 Days CEO Eric Wu told
econoff that U.S. markets are attractive for fast-growing firms like
his because regulations are clear, application procedures smooth,
and government interactions are predictable, unlike in China where a
company's application to list might languish for months or longer
while regulators decide whether firms are ready to be traded on one
of the country's exchanges. That delay can be costly to private
firms like his because they lack access to capital markets and must
rely on costly and unpredictable bank financing to maintain growth
during any major expansion, Wu said. In a recent Business Week
article, Beijing-based NYSE Euronext Chief Representative Michael
Yang predicted 2-4 times as many new Chinese listings on his firm's
board in 2010 with the other U.S. and European markets also vying
for many of the same potential listings.

10. (SBU) Comment: Despite growing external competition from foreign
boards for new Chinese listings, it appears that authorities will
continue to take a cautious approach when allowing new start-up
companies to list on ChiNext in order to protect investors from
exposure to "irresponsible" companies. The cautious attitude of
regulators was apparent in China Securities Regulatory Commission
(CSRC) Chairman Shang Fulin's comments at the new board's opening
ceremony. "Most of the ChiNext firms are in the high-growth period.
We should know that their performance could be unstable, their
business model and long-term profit-making ability have not been
tested," he said. The successful opening of the ChiNext board shows
that regulators are willing to use markets to expand options for
firms in need of capital, but the repeated delays that preceded it
and signs that the pace of new listings will be slow indicate that
regulators' comfort with market forces is limited. End comment.

JACOBSEN

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