First Ant Financial, then Meituan, now Didi. China's turning inward, not outward

[bwall]

The best days of investing in China appear to be drawing to a close, and globalization 2.0 seems to be drawing to a close as well.

Last fall Jack Ma made comments that offended the tender sensibilities of the CCP. So, they canned the blockbuster IPO of Ant Financial, one that would have made the history books and signaled the arrival of China in the arena of finance, dominated by Western companies since . . . . . . before the term 'Western' existed.  Instead of allowed a Chinese run corporation to dominate fin tech across the world, they wanted to bring Jack Ma to heel. So they did, allowing precious breathing space for the non-CCP loving competition to catch up, as they will one day.

As the fallout was still being measured, the CEO of the world's largest spirits-maker, Meituan, quoted an ancient Chinese poem. The snowflakes in the CCP were triggered, the CEO made a $2.3 billion donation to charity and disaster averted. Since this donation was less than the $7.7b donated by the head of Tencent earlier this year, it could have been much worse. But, still a pretty hefty fine for someone who loves poetry.
https://www.bloomberg.com/news/articles/2021-06-04/meituan-founder-gives-away-2-3-billion-stake-as-probe-persists

On June 30, Didi went public after apparently mis-reading the CCP's suggestions. Again, CCP snowflakes were triggered and Didi's app was removed in China at the government's suggestion. The stock plunged 25%, burning investors.
https://fortune.com/2021/07/09/didi-ipo-stock-data-crackdown-china-wall-street-investors/

A pattern is developing where China is now turning inward. Some are suspecting that the Variable Interest Entity (VIE) structure that underpins all offshore Chinese stock listings may not be around indefinitely. One day soon, Chinese stocks may no longer be listed outside of China.
https://finance.yahoo.com/news/china-signals-end-2-trillion-200000164.html

China is passing up a great hegemonic opportunity, for reasons best known to them.

What does this mean for us Mustascians?

1) China is much different than the West, in ways that we cannot comprehend and for reasons that would not make sense to us.
2) Investing in China is as risky as ever.
3) If one wants to invest in China, the least-riskiest way to do it is via Western companies that have large and expanding market share in China and brands that cannot be counterfeited. (Yum, VW, Starbucks, Tesla, Apple, GM, Smithfield, Ferrari, etc)
4) Bear in mind that AAPL and TSLA both have factories in China. They might come to regret this one day. Hopefully they are making contingency plans in case the SHTF. It's happened before, in Shanghai, as the Sassoons, Kadoories and Hardoon's can attest.

https://archive.nytimes.com/www.nytimes.com/fodors/top/features/travel/destinations/asia/china/shanghai/fdrs_feat_145_5.html?n=Top%252FFeatures%252FTravel%252FDestinations%252FAsia%252FChina%252FShanghai

[marty998]

And these are just the examples that have been reported over the years. Given the level of censorship that occurs, I'd imagine the list of unreported cases is very long indeed.

[maizefolk]

1) China is much different than the West, in ways that we cannot comprehend and for reasons that would not make sense to us.

A touch of old stereotypes from the era of orientalism here of the inscrutable Far East. China is absolutely different from the west. Yet the actions of the Chinese government are for reasons either you or I are indeed capable of understanding and comprehending. Just, like any different culture other than ones own, it simply takes an investment in time and attention to get enough of the cultural and social context to do so.

2) Investing in China is as risky as ever.

Agreed
.

3) If one wants to invest in China, the least-riskiest way to do it is via Western companies that have large and expanding market share in China and brands that cannot be counterfeited. (Yum, VW, Starbucks, Tesla, Apple, GM, Smithfield, Ferrari, etc)

I'm not convinced this is the case. Or if it is the case, it's primarily less risky because of the geographic diversification since all of these companies have large parts of their operations and revenue coming from outside of China rather than because the long term prospects of these companies inside of China are more secure than domestic Chinese companies. The Chinese government is willing to crack down on the occasional national champion in order to establish who calls the shots. That same Chinese government clearly sees foreign businesses selling to domestic consumers in China as a necessary but ultimately temporary situation that will ultimately be displaced by domestic alternatives. Which seems riskier over the long term?

On a more technical level, keep in mind YUM and YUMC are entirely separate companies. If you buy YUM you're investing in the business that operates and franchises KFC/Taco Bell/Pizza Hut everywhere in the world EXCEPT China. If you buy YUMC, you're buying stock in a company whose business operations are based in Shanghai and which operates KFC/Taco Bell/Pizza Hut ONLY inside of China.

4) Bear in mind that AAPL and TSLA both have factories in China. They might come to regret this one day. Hopefully they are making contingency plans in case the SHTF. It's happened before, in Shanghai, as the Sassoons, Kadoories and Hardoon's can attest.

Keep in mind Apple doesn't, itself, have factories in China. They contract out their manufacturing to a Taiwanese company (Foxconn) which in turn runs giant factories in China. In principle, there is an awful lot that could potentially go wrong with a company based in a country the PRC doesn't recognize as existing. In practice, being the single largest private employer in China and being run by executives who A) understand Chinese culture and governance B) don't have as direct a stake in trying to change and challenge the system as executives who are actually part of PRC makes Foxconn low risk as China plays go.

Now Tesla could and may well find themselves in a bad way with regard to their Shanghai factory someday. On the other hand, they committed to building it when there was still a non-trivial risk that the whole company might run out of money and go belly up from quarter to quarter and the growth potential and increased manufacturing of the China site, funding primarily with Chinese capital, probably helped investors avoid losing faith long enough for Telsa to break through to the point where there is little risk of their blowing up and drying away entirely. If at some point they end up losing their operations in China, they'll likely still be better off than if they hadn't go into Shanghai in the first place.

[former player]

China is much different than the West, in ways that we cannot comprehend and for reasons that would not make sense to us.

A touch of old stereotypes from the era of orientalism here of the inscrutable Far East. China is absolutely different from the west. Yet the actions of the Chinese government are for reasons either you or I are indeed capable of understanding and comprehending. Just, like any different culture other than ones own, it simply takes an investment in time and attention to get enough of the cultural and social context to do so.

The actions of the Chinese government are absolutely understandable if you look at it as an authoritarian oligarchy primarily interested in protecting its own safety, power and prosperity in exactly the same way as every other authoritarian oligarchy has done through the millennia.

Chinese culture separate from its governing system is another matter, and I suspect (I'm just an ignorant westerner in these matters) has many layers of difference to my understanding of the world.

The thing that makes long term investing in the stock market worthwhile is the rule of law - which has a greater meaning than policing individual crimes, it means having a governing system which is subject to legal constraint and strict limits on the scope for violence and corruption.  On that metric China is not a good place to invest long-term.  The present trajectory of the USA, in particular the corruption of the Republican Party, isn't particularly reassuring either.

[bwall]

@maizefolk ;

Good point about YUM & YUMC. I'd forgotten that they'd split their company in two, one ex-China and the other China-only. If someone wants a pure-play on China, YUMC is a great way to do it.

I guess that with reference to the production facilities that churn out AAPL & TSLA products, I was referring more to systemic risk of nationalization. It doesn't seem likely today or in the near future, nor in any part of the last, say, 30 years. But, the CCP has nationalized lots and lots of factories, real estate and property in the 20th Century, in a way that isn't really familiar to most of us in the West.

Just today I read an article about China Mobile re-listing in Shanghai after a forced delisting from the NYSE.
https://finance.yahoo.com/m/c01281f0-f1c9-3a3d-8ed6-6593445df3d8/china-telecom-to-hold-8-4bn.html

This is what the start a de-coupling looks like. What the end of this de-coupling looks like is anyone's guess.

[maizefolk]

I guess that with reference to the production facilities that churn out AAPL & TSLA products, I was referring more to systemic risk of nationalization. It doesn't seem likely today or in the near future, nor in any part of the last, say, 30 years. But, the CCP has nationalized lots and lots of factories, real estate and property in the 20th Century, in a way that isn't really familiar to most of us in the West.

Just today I read an article about China Mobile re-listing in Shanghai after a forced delisting from the NYSE.
https://finance.yahoo.com/m/c01281f0-f1c9-3a3d-8ed6-6593445df3d8/china-telecom-to-hold-8-4bn.html

This is what the start a de-coupling looks like. What the end of this de-coupling looks like is anyone's guess.

It's worth separating out the effects of a decoupling between the Chinese and US economies and a turn away from capitalism within the Chinese economy. I think the latter is very unlikely, but agree with you that the former is already happening.

That's why I brought up that Apple doesn't own any factories in China to be nationalized. The factories all belong to Foxconn, which is Taiwanese, which means from the PRC's perspective (since they don't consider Taiwan a separate country) those factories already belong to China.

We "in the west" actually have a surprising amount of experience with nationalization if you look at what has happened to both domestic companies and, more commonly, foreign owned facilities throughout South and Latin America. Heck, the UK was nationalizing whole domestic industries as recently as the 1950s.

[ChpBstrd]

The actions of the Chinese government are absolutely understandable if you look at it as an authoritarian oligarchy primarily interested in protecting its own safety, power and prosperity in exactly the same way as every other authoritarian oligarchy has done through the millennia.

I agree, @former player. In the U.S, the government's goal is to dominate worldwide industries and maximize the profits to investors. In China, the government's goal is to dominate its own people, particularly rich capitalists who could pose a stealthy threat to party rule and national unity. They would rather have internal power than compete with New York City in the world financial markets, or pull in investment from foreigners.

Another way of looking at it is this: The Chinese have observed how the lack of antitrust enforcement, tax enforcement, misinformation control, or wealth sharing measures in the U.S. have led to our current state of weakness and disarray. The US has huge duopolies in many technology, information, food production, energy, transportation, and financial markets, among others. Billions of dollars in legalized bribes flow to our politicians every year, and billions of dollars in incentives flow back, perpetuating a system where it is not the government that is in control.

These decisions have led to a Byzantine tax system that is almost custom-designed to allow billionaires and corporations to pay nothing, which allows corporations and billionaires to corrupt government. Now they witness the spectacle of people in a democracy hating and distrusting their own government to the point they are willing to commit violence against lawmakers or risk death rather than take a vaccine (while the information corporations earn $ from misinformation in both areas).

The Chinese want none of this chaotic decline, and are choosing a different path - strict controls on corporations, taxes, and finance, strict control of information, strict enforcement of antitrust and corruption laws, and the quashing of rich people who could become political rivals. China's legal looseness looks like lawlessness to Western eyes, but it allows the government to pursue its objectives rather than getting tied up in absolutist word games like our Supreme Court did with Citizens United and many other nation-weakening examples.

China's approach may or may not be more successful - we'll know in 20 years. However, even if they pull ahead or the US's decline accelerates, I would still not invest very much there. A chaotically declining empire that is set up to maximize shareholder returns will probably still yield more than a steadily rising empire that is organized for other purposes.

[BicycleB]

Wow, what a thoughtful discussion! @maizefolk, @former player, @ChpBstrd - really insightful posts. Thanks to all.

China's approach may or may not be more successful - we'll know in 20 years. However, even if they pull ahead or the US's decline accelerates, I would still not invest very much there. A chaotically declining empire that is set up to maximize shareholder returns will probably still yield more than a steadily rising empire that is organized for other purposes.

Not sure if 20 years is long enough to tell which approach is more successful, but interesting investor proposition.

[bwall]

I agree, @former player. In the U.S, the government's goal is to dominate worldwide industries and maximize the profits to investors. In China, the government's goal is to dominate its own people, particularly rich capitalists who could pose a stealthy threat to party rule and national unity. They would rather have internal power than compete with New York City in the world financial markets, or pull in investment from foreigners.

Another way of looking at it is this: The Chinese have observed how the lack of antitrust enforcement, tax enforcement, misinformation control, or wealth sharing measures in the U.S. have led to our current state of weakness and disarray. The US has huge duopolies in many technology, information, food production, energy, transportation, and financial markets, among others. Billions of dollars in legalized bribes flow to our politicians every year, and billions of dollars in incentives flow back, perpetuating a system where it is not the government that is in control.

Thanks, @ChpBstrd , for the eloquent explanation of China. I think you have provided a great synopsis of PRC & it's CCP, at least from my Western, non-Chinese speaking viewpoint.

But, what I still don't get, is why is the CCP like that? Why do they choose internal domination of their own people over domination of industry across the world? By kneecapping their billionaires the CCP will have greater relative power within China, but less absolute power on the world stage. Why do they prefer one over the other?

[ChpBstrd]

I agree, @former player. In the U.S, the government's goal is to dominate worldwide industries and maximize the profits to investors. In China, the government's goal is to dominate its own people, particularly rich capitalists who could pose a stealthy threat to party rule and national unity. They would rather have internal power than compete with New York City in the world financial markets, or pull in investment from foreigners.

Another way of looking at it is this: The Chinese have observed how the lack of antitrust enforcement, tax enforcement, misinformation control, or wealth sharing measures in the U.S. have led to our current state of weakness and disarray. The US has huge duopolies in many technology, information, food production, energy, transportation, and financial markets, among others. Billions of dollars in legalized bribes flow to our politicians every year, and billions of dollars in incentives flow back, perpetuating a system where it is not the government that is in control.

Thanks, @ChpBstrd , for the eloquent explanation of China. I think you have provided a great synopsis of PRC & it's CCP, at least from my Western, non-Chinese speaking viewpoint.

But, what I still don't get, is why is the CCP like that? Why do they choose internal domination of their own people over domination of industry across the world? By kneecapping their billionaires the CCP will have greater relative power within China, but less absolute power on the world stage. Why do they prefer one over the other?

Westerners think of economic power in terms of legally owning productive assets. Jeff Bezos legally owns shares of Amazon, and because we all recognize that, he has economic power, we will work for his benefit, and nobody can legally take it away. From a post-communist point of view, economic power comes from political power, and whomever grabs the political power sets the laws and essentially owns or controls the productive assets.

To Marx, the oligarchs who controlled the government were wealthy because they controlled the government. They could use the government's monopoly on the use of violence to force the proletariat to work for them and support their lavish lifestyles - serfdom. The proletariat would have to use violence if they were ever to seize control over the assets of production for themselves. The revolution continues in communist countries, they say, because there will always be would-be oligarchs trying to seize control over assets and take them from the people, thereby reducing the people back into serfdom.

If the CCP lost control of China, for example, by allowing a competing political party supported by billionaire capitalists to win elections (what the West wants), then in their view that would doom everyone to serfdom. The oligarchs would continue to amass assets and force people to work for them. As long as the CCP stays in absolute power, that outcome can't happen, or so the reasoning goes.

How does the communist party itself not constitute a new oligarchy if it controls all the assets, you ask? Well, in theory they are bound to a sort of vow of poverty. I.e. CCP members are not supposed to live lavishly. Xi Jinping's crackdown on perceived corruption is an extension of doctrine. Post-communist separation of economy and state is similar to the Western concept of separation of church and state. Both seek to reduce the power of government to control people, and both are routinely compromised sources of great controversy.

[maizefolk]

But, what I still don't get, is why is the CCP like that? Why do they choose internal domination of their own people over domination of industry across the world? By kneecapping their billionaires the CCP will have greater relative power within China, but less absolute power on the world stage. Why do they prefer one over the other?

A lot of CCP policy today is still shaped by the events of 1989 where the government came quite close to falling. For several years afterwards, the conventional wisdom both here in the USA and, I believe, among many of the elites in China was that it was a question of when, not if, the communist regime would fall. Obviously, we're three decades on and that hasn't happened, in part because the Chinese government has gone about both cracking down on dissent and potential sources of dissent, while at the same time prioritizing trying to take away one of the biggest motivation for broad popular discontent by harnessing capitalism to continually raise standards of living for the majority of its citizens.

A lot of decisions the Chinese government make make more sense once you realize a key motivator is survival/continuity of government, and that survival has been in substantial and genuine doubt in the adult lives of the people who are now calling the shots.

[MustacheAndaHalf]

Another way of looking at it is this: The Chinese have observed how the lack of antitrust enforcement, tax enforcement, misinformation control, or wealth sharing measures in the U.S. have led to our current state of weakness and disarray. The US has huge duopolies in many technology, information, food production, energy, transportation, and financial markets, among others. Billions of dollars in legalized bribes flow to our politicians every year, and billions of dollars in incentives flow back, perpetuating a system where it is not the government that is in control.

U.S. tech companies did not bribe their way to the top.  Their influence in the U.S. doesn't help in Europe or Africa for example, where they also dominate.

One trick with anti-trust regulation is spotting the harm.  Google and Facebook are free (ad supported) services, so consumers pay nothing and benefit from their services.

There's also the tax issue - or lack of it.  Some years these companies pay nothing in tax (ignoring payroll taxes).  They charge themselves huge licensing fees, which act as a cost against their income.  The licensing fees profit their Ireland presence, where they pay almost nothing in taxes.  That would be a nice loophole to close... I think France might be onto something in taxing tech giants for consumer use of their services.

[bwall]

@ChpBstrd ; another great analysis, IMHO. Thank you.

And, I guess this is what I meant with the comment upthread 'reasons that would not make sense to us.'

I understand the logic as you described it; one step leads to another leads to another and viola!. I guess, though, that at a fundamental level it 'doesn't make sense' to me because the entire Western world is ordered completely differently. And understanding that different way of ordering society is hard, so when I see that half of my countrymen don't understand that the covid vaccine should be taken, then I stand by my statement upthread.

Just today another report; China's removal of the profit motive of two companies' business model.
https://finance.yahoo.com/news/chinese-education-tycoon-loses-15-045554539.html
"On Saturday, China released new regulations that ban companies that teach school curriculums from making profits, raising capital or going public."
So, the owner of the company goes from a NW of $15b to $0.336b. Still not too shabby, but a mighty fall.

[CowboyAndIndian]

It looks like there are many issues in China(Demographics, Housing crisis, and water shortages)and it is possible that when the sh*t hits the fan, the CCP does not want anyone powerful enough who can challenge the CCP. This also probably explains why China has antagonized neighbors all around.

There is a great series on YouTube by PolyMatters, called China's Reckoning. (https://youtube.com/playlist?list=PLR5tswn4SFyUOm3QusvlFGbPCCAN_uXnK), where these issues are explained in detail.

[J Boogie]

One figure that illustrates their inward focus quite well is that they actually spend close to 20% more on domestic security than external defense.



https://asia.nikkei.com/Spotlight/China-People-s-Congress-2018/China-spending-puts-domestic-security-ahead-of-defense
https://jamestown.org/program/chinas-domestic-security-spending-analysis-available-data/

[CowboyAndIndian]

One figure that illustrates their inward focus quite well is that they actually spend close to 20% more on domestic security than external defense.



https://asia.nikkei.com/Spotlight/China-People-s-Congress-2018/China-spending-puts-domestic-security-ahead-of-defense
https://jamestown.org/program/chinas-domestic-security-spending-analysis-available-data/

Wow, that is such a scary fact!

And they are not scrooges when it comes to external defense!

[bwall]

It looks like there are many issues in China(Demographics, Housing crisis, and water shortages)and it is possible that when the sh*t hits the fan, the CCP does not want anyone powerful enough who can challenge the CCP. This also probably explains why China has antagonized neighbors all around.

There is a great series on YouTube by PolyMatters, called China's Reckoning. (https://youtube.com/playlist?list=PLR5tswn4SFyUOm3QusvlFGbPCCAN_uXnK), where these issues are explained in detail.

Great link! Thank you for sharing. Should be required viewing for anyone looking to invest in China.

I knew about their demographic situation. I wasn't aware of the three other issues. 

[J Boogie]

One figure that illustrates their inward focus quite well is that they actually spend close to 20% more on domestic security than external defense.



https://asia.nikkei.com/Spotlight/China-People-s-Congress-2018/China-spending-puts-domestic-security-ahead-of-defense
https://jamestown.org/program/chinas-domestic-security-spending-analysis-available-data/

Wow, that is such a scary fact!

And they are not scrooges when it comes to external defense!

It's interesting if you compare it to the US. Our trajectory is not all that much different, though our commitment to freedom and accordingly our methods are.

Consider how we are bringing troops back out of the Middle East. Consider how we turned down a REQUEST for US troops in Haiti following their assassination.

And then consider how the intelligence agencies have recently begun to shift their focus from extreme Islamist terrorist threats to the growing anti-govt white nationalist domestic terrorist threat.

Which data can certainly support. But you won't always get public support by using data. You need a compelling story.

You need Gretchen's amateur would-be kidnappers, who are making a case that they were entrapped by FBI agents. Not that I buy their case, as they're adults and they made their own decisions - but big foiled plots like these certainly help the FBI, CIA, and NSA make a case to get more funding and have more wiggle room in, you know, surveilling US citizens.

Still, they've got their work cut out for them given that they squared off against a cult leader with over 74 million followers.

https://www.csis.org/analysis/war-comes-home-evolution-domestic-terrorism-united-states