The notorious “Lo Tsin” of Hong Kong’s equity market are suddenly in the spotlight. Slang for “tricksters” in Cantonese, the phrase has long been used in the former British colony to describe stocks suspected of being tainted by dodgy financial operators, from pump-and-dump traders to misleading corporate managers. Now, as China prepares to give its citizens greater access to smaller Hong Kong shares through a cross-border exchange link, the term is popping up in state-run media and Internet discussion groups across the mainland.
The message for Chinese investors venturing into Hong Kong: ignore the Lo Tsin at your peril.
“Mainland investors have a love-hate relationship with Hong Kong stocks as they find a large number of undervalued, quality companies sitting side-by-side with shady ones,” said Fang Lie, chairman of Shenzhen Juwending Investment Management Ltd., a private equity firm named after the Chinese city on Hong Kong’s northern border. Fang, an accountant by training, conducts seminars for mainland investors on how to avoid potential Lo Tsin shares.
Of course, Chinese markets have had scandals of their own, and there’s little evidence that stocks in Hong Kong are particularly vulnerable to wrongdoing (the city ranks No. 1 on a World Bank gauge of minority investor protection, versus 134 for China). Still, Lo Tsin anxiety among Chinese traders persists, in part because the two jurisdictions have very different approaches to regulation.
As Hong Kong Exchanges & Clearing Ltd. Chief Executive Officer Charles Li explained in a blog post referencing the Lo Tsin this month, authorities in China are high-touch gatekeepers, scrutinizing companies before they go public in an effort to safeguard individual investors. Hong Kong typically takes a more hands-off approach, allowing firms to list once they meet the city’s clearly-defined minimum criteria.
The two systems also vary when times get tough for investors. China’s state-directed funds spent billions propping up share prices after the domestic market crashed last year, a stark contrast to Hong Kong, which has avoided large-
scale government intervention since the Asian financial crisis in 1998. On the mainland, shareholders take comfort from China’s relatively small number of short sellers, along with daily trading limits that cap declines at 10 percent – giving regulators time to respond to signs of wrongdoing before losses deepen. In Hong Kong, shares of at least seven companies have posted one-day losses exceeding 50 percent this year.
The city’s approach has come under scrutiny in recent years with the high-profile collapse of several stocks in the city, including Hanergy Thin Film Power Group Ltd., which is under investigation by Hong Kong’s Securities and Futures Commission, and Boshiwa International Holding Ltd., which is in the process of being delisted by the city’s exchange. Both companies have denied wrongdoing.
The SFC has been stepping up probes into potential misconduct, pursuing 137 market manipulation investigations in the year through March, a 51 percent increase from two years earlier. Probes into insider trading and “corporate misgovernance” have jumped 49 percent and 37 percent, respectively, over the past two years, according to the SFC’s annual report. When contacted for comment on potential Lo Tsin stocks, an SFC spokesman referred to a June 2 speech by CEO Ashley Alder, in which he said the regulator has been looking into shares with “extreme volatility.”
Few cases have drawn more attention in China than that of Hanergy, one of the more than 30 examples of potential Lo Tsin analyzed by Fang during his weekend lectures in Shenzhen. The stock, a favorite of mainland investors using the exchange link and one of the more than 1,000 Hong Kong-listed companies that get most of their revenue from China, tumbled 47 percent in 24 minutes on May 20, 2015, wiping out USD19 billion of value before trading was halted.
Shares of the solar company had surged more than 1,300 percent during the preceding two years, even as speculation increased that the firm was at risk from unproven technology, overly ambitious forecasts and a reliance on its unlisted parent company for revenue. In response to a report in the Financial Times on unusual trading patterns in the stock, Hanergy released a statement in March 2015 denying any misconduct or manipulation of the shares either by the company or its founder, Li Hejun.
Hanergy has been pursuing reforms and swung to profit in the first half, the company said in an e-mailed reply to questions on Sept. 23. The firm has become more market-oriented and will work hard to produce better returns for investors, Hanergy said. Shares remain suspended.
Xu Ming, an individual investor from China’s Jiangxi province, says he invested in Hanergy about two years ago but avoided the stock’s crash after selling his stake on concern over the firm’s reliance on its parent. He has attended Fang’s classes on how to spot potential Lo Tsin shares in Shenzhen, which attracted more than 100 individual and professional investors in May and September. An expansion of the exchange link to include Shenzhen stocks and Hong Kong small-caps is expected by November.
“I hope Hong Kong regulators will plug loopholes in the market and better protect small investors,” Xu said in a phone interview.
The city’s benchmark Hang Seng Index rose 0.2 percent at 9:34 a.m. local time, extending this year’s gain to 6.5 percent. The Shanghai Composite Index was little changed.
Fang said he tries to arm investors with their own tools to avoid potential Lo Tsin. He focuses on spotting red flags in financial statements using metrics including cash flow, accounts receivable and inventories.
Such early warning signals were apparent at Boshiwa, an apparel maker and Harry Potter licensee, Fang said. In 2011, the company was reporting high accounts receivable and prepaid expenses relative to peers. The numbers were unusual for a branded retailer, which typically has better bargaining power with suppliers and distributors, Fang said.
Boshiwa, whose auditor resigned in March 2012, sank 35 percent on the 15th of that month before its shares were halted. After more than four years of suspended trading, the company has entered a delisting process for failing to demonstrate to the exchange that there’s no “regulatory concern about management integrity,” according to company filings.
A Cayman Islands court ordered the appointment of provisional liquidators after a winding-up petition was filed, the company said in a February 2015 statement. It said in August that a potential investor has agreed to provide working capital as the company attempts to restructure its debt.
Boshiwa’s website and public phone number were inaccessible. Calls to the Shanghai and Melbourne numbers of Chen Pei Qi, who the company had listed as an executive director, weren’t answered. An employee of EQS TodayIR Ltd. said by phone that his company had stopped acting as Boshiwa’s investor relations contact.
China’s state-run media have helped focus attention on the potential pitfalls of investing in Hong Kong. The Shanghai Securities News, owned by the official Xinhua News Agency, discussed the Lo Tsin in a Sept. 12 article that included an interview with HKEx’s Li.
“It is urgent to cure the market disease of ‘Lo Tsin stocks’ while striking a balance between efficiency and fairness,” the Shanghai Securities News wrote.
In one sign that Hong Kong is seeking to strengthen market oversight, the SFC is working with the city’s bourse on a new approval process for initial public offerings that analysts say would shift power to the regulator, giving it more explicit say over which companies are granted listings. The SFC and the exchange are inviting comments on proposed changes in a public consultation set to end in November.
While regulation in Hong Kong may improve over time, the ultimate responsibility for due diligence lies with investors, said Ran Linghao, a Shenzhen-based portfolio manager at Da Cheng Fund Management Co., which oversees more than $10 billion.
“Under Hong Kong’s current legal and regulatory environment, the best way is to stay away from any suspected Lo Tsin stocks,” he said. Fox Hu, Bloomberg
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