Debate over stock exchange reform misses threat to Hong Kong
The particular character of Hong Kong is on display in a surprising debate that has gripped the city. It’s not the recent conviction of democracy activists. Nor is it the preservation of the city’s ecology or care for its elderly or its paucity of affordable housing.
It’s the debate over the arcane matter of whether the Stock Exchange of Hong Kong should allow companies to list two classes of shares with different voting rights, or so-called dual-class share structures.
The debate has been front-page news in the city, the subject of editorials, white papers and other commentary, as well as fodder for conversations with professionals in the business community.
The debate widens a fissure between two camps that arose after Alibaba spurned Hong Kong in favor of listing in New York with different share classes. One camp argued that Hong Kong’s governance code must adamantly ensure equal treatment of investors, while the other argued that the local exchange needed to amend its rules in order to remain a listing destination.
But it’s alarming that the debate has been cast strictly in terms of shareholder governance rather than as part of a coordinated economic plan for the city’s future. The strength of Hong Kong’s economy and the hearty performance of its equity markets mask the existential challenge facing it: remaining relevant to the world and to its gargantuan neighbor to the north at a time of rapid economic dislocation spurred mostly by technological advances taking place outside of Hong Kong.
Consider the benefits to the local economy of attracting more listings. There’s the obvious banking and legal work, which employs many people in the city. Also, companies with listed shares have a currency for mergers and acquisitions, which could spur additional economic activity. Financial firms, which have an outsize role in Hong Kong’s economy, could use the newly listed shares to create investment products for both retail and professional investors.
More listings will allow traders to pursue a wider variety of investment strategies, attracting money and investment firms, and with them, more professional views as to whose shares are worthy of investment and whether they are fairly valued.
Often maligned by the business community, so-called short-sellers, which bet on stocks falling, will have a crucial role to play in a world with dual class share structures. Their bearish trades on particular stocks – provided the trades can be seen by the market – provide important signals to help long-term investors weigh the central risk of holding shares with less voting weight: that management will run amok without checks and balances. That risk depends on qualitative factors, namely the character of management, the company’s charter, and the scope it provides for executive shenanigans.
In short, esoteric market mechanisms that allow for short-selling and provide transparency around it are necessary to consider in this debate.
Yet the clashing of views over dual-class share structures has so far omitted the question of who will use them. This question gets to the long-term outcomes for Hong Kong.
The primary rationale for allowing dual-class share structures is to foster a tech sector in Hong Kong, where the economy is dominated by traditional industries such as real estate, manufacturing, logistics and maritime trade.
But dual-class share structures alone are unlikely to create a competitive tech sector unless the city does more to nurture its tech talent and startup community.
What’s more likely is that the tech companies from mainland China will take advantage of dual-class structures to tap international capital through Hong Kong’s market. The mainland is seeing a proliferation of tech startups thanks to the global success of firms like Alibaba and Tencent, which has the largest market capitalization among companies listed in Hong Kong.
It’s becoming harder by the day for Hong Kong’s startups to compete with the billions in development capital raised across the northern border, where companies are turning out ever more sophisticated business models geared to a minimum audience of tens if not hundreds of millions of users from the get go.
Take this view to its extreme, and the long-term implications of dual-class share structures point in an ominous direction that has nothing to do with shareholder governance. Absent structural changes in Hong Kong’s economy, the likely influx of listings from mainland China will hasten what some people already fear: that Hong Kong becomes just another large city in China, subsumed by its Mandarin-speaking brethren who are better equipped and better capitalized to compete with rivals in South Korea, Singapore, India and other Asia tech hubs.