Chinese IPO

Overpriced A-share IPOs set for overhaul this year

Chinese regulators are rumoured to be considering a move to Dutch auctions in a bid to curb the continued overpricing of many A-share IPOs.
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Shanghai's stock exchange building (AFP)
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<div style="text-align: left;"> Shanghai's stock exchange building (AFP) </div>

China’s equity market may be about to adopt a new method for pricing initial public offerings as securities regulators strive to tackle widespread concerns about overpriced share offerings, according to some analysts.

The newly appointed chairman of China Securities Regulatory Commission (CSRC), Guo Shuqing, acknowledges that the problem is still very severe. “Many issuers come up with high prices but low asset quality,” he said in a statement, adding that some stocks have been “excessively traded” and that regulators must “firmly address these issues”.

Guo has also publicly questioned whether the regulator should simplify the tedious listing approval process.

His remarks, which were posted on the regulator’s website, are being interpreted by some as a sign that the government is determined to reform its financial markets. It remains to be seen when it will introduce effective measures, or what precise form they will take, but there are plenty of rumours that the equity market could be set for changes as early as this year.

China’s lack of sound laws and regulations, combined with limited investment channels for its army of retail investors, have driven up IPO prices and led to excessive speculation. This has meant that even richly priced new share sales often still enjoy strong secondary-market performance when they first start trading.

“The average valuation of new shares stood at 50 times in 2010,” said Xie Peijie, a Shanghai-based analyst at Central China Securities. “That makes the overall market very unsustainable. Regulators may adopt a new IPO pricing mechanism this year and the Dutch auction system may be a preferred option.”

In a traditional Dutch auction, the auctioneer first pitches the new shares at an inflated price and lowers it until institutional investors start bidding. The auctioneer continues to lower the price until all the allotted shares are assigned. At the end, bidders get the number of shares they agreed to buy, but all at the price proposed by the last bidder.

Other specialists agree that it is essential to improve the stability of China’s equity market and to make the pricing of IPOs more efficient. “There is a price-and-valuation mismatch in the A-share market,” said Vincent Chan, head of China research at Credit Suisse. “Some large-scale and good companies are very cheap, whereas small firms have high valuations.”

The fear is that such valuations are unsustainable. “Those share prices sent soaring by speculative trading may nosedive heavily one day, and neither the regulators nor investors want to see that happen,” Chan said.

Guo, who is the former chairman of China Construction Bank, may be able to address the issue of overpriced IPOs, but reining in the excessive trading of China’s enthusiastic retail investors could prove far more challenging.

There are more than 100 million retail stock brokerage accounts in China, accounting for roughly 80% of turnover on the A-share market. With few other investment options, those with a get-rich-quick mindset all tend to bet their savings on stocks in the pursuit of short-term gains.

“Chinese retail investors are especially sensitive to market changes. We see large numbers of new accounts opening as soon as markets show the slightest signs of recovery,” said Yim Fung, CEO of Guotai Junan International.

The Guotai Junan Securities’ Hong Kong operation currently has 70,000 brokerage accounts with 88% of them opened by mainland investors. Every year, there are more than 10,000 new accounts opened by cross-border investors, according to the company.

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