Few had any illusions that US President Joe Biden was going to be tough on China if he came into power. Any naive hopes of a rapprochement had already been put to bed by the tense scenes at the Alaska Summit between the American and Chinese delegations. Now the White House has put words into action, banning US investments in 59 Chinese defence and tech firms, up from 31 previously.
The restrictions build on so-called “Executive Order (EO) 13959” issued by the Trump administration, with the stated aim of curtailing China’s “military-industrial complex”. The Biden administration has extended the EO by finding that firms allegedly involved in the use of Chinese surveillance technology outside its borders, and the development and use of such technology to “facilitate repression or serious human rights abuses, constitute unusual and extraordinary threats”.
A fact sheet by the White House noted that the new EO will prohibit US persons from purchasing or selling publicly traded securities of affected businesses starting Aug 2. Firms caught up in the ban include Huawei Technologies, as well as public-listed firms such as China Telecom and CNOOC. Recourse is available to firms wishing to petition for removal from the blacklist by applying to the US Office of Foreign Assets Control.
Beijing is not pleased. “The previous US administration put in place an investment ban... in total disregard of [the] facts [regarding] the real situation in certain companies. The move severely disrupted normal market rules and order,” said Chinese Foreign Ministry spokesperson Wang Wenbin in a regular press conference on June 3. He accused the US of undermining the rights and interests of Chinese firms and the interests of global investors, “including those in the US”.
Wang said that China would take necessary measures to “firmly safeguard” the legitimate and lawful rights and interests of Chinese enterprises and support them in defending these according to the law. “The US should respect [the] rule of law and the market, correct its mistakes, and stop actions that undermine the global financial market order and investors’ lawful rights and interests,” he said.
But the Biden administration seems to have no intention of stopping at just 59 companies. “We fully expect that in the months ahead... we’ll be adding additional companies to the new executive order’s restrictions,” the White House told the BBC.
Geopolitical dimension
The campaigning by former president Donald Trump and Biden practically split the country into two. Yet, when it comes to China, the Biden administration has opted to stick to the tough approach taken by Trump. As the previous order issued by Trump was arguably unclear about the firms it was targeting, the new order is designed to clarify its targets. Moreover, the White House was responding to court challenges by several Chinese firms, which officials told Politico made it “flawed and legally vulnerable”.
Nick Marro, global trade lead at the Economist Intelligence Unit (EIU), says that it is likely that the Biden administration will be looking through and updating policies inherited from its predecessors. Fortunately, however, the Biden administration is unlikely to replicate the “fire and fury” of Trump. It is instead focusing on designing policy in a way that is sustainable and practical without blowbacks against US industry.
Yet the fact that Biden is targeting China’s “military-industrial complex” suggests that a wider range of firms could fall into Uncle Sam’s dragnet. The definition of the former refers to firms within Chinese industry that affect China’s security goals that could be affected even in the absence of direct ties with the military.
Terrifyingly for investors, Marro sees delistings of China companies quoted on US exchanges as a real threat going forward. “It’s probably a good idea to remain worried, but investors should also be aware of what companies might be targeted in the future,” Marro tells The Edge Singapore.
Investors should consider any potential links between their investments and China’s “military-industrial complex” so as to forecast any possibility that one’s holdings may come under the scrutiny of the US government. Political and regulatory risks could become a bigger part of future investment.
The risk now, however, is if the EU is persuaded to follow Washington’s lead. Previously, the Europeans were prepared to be less confrontational with Beijing as they emphasised the need for strategic autonomy from the US. Yet, with EU-China relations cooling over a sanctions dispute related to alleged human rights abuses in Xinjiang, Marro thinks the antagonised Europeans may choose to fall in behind Washington as they see Chinese counter-sanctions on EU officials and institutions in retaliation to their own symbolic measures as disproportionate.
Not that China is backing down without a fight — it implemented an Anti-Foreign Sanctions Law on June 10. Individuals, organisations and their family members involved in designing or implementing US and EU sanctions could experience visa denials or expulsion, seizure or freezing of assets within China, and blocking or restriction of transactions with domestic organisations or individuals.
“China already discriminates against foreign companies as part of its foreign policy toolkit, and the new law doesn’t change that reality. It does, however, further codify this practice into China’s legal framework, which is significant in the sense that it gives Chinese authorities more explicit justification to enact policies that target foreign businesses,” says Marro. He sees this setting the stage for officials deploying retaliatory mechanisms that have yet to be publicly deployed such as Beijing’s own unreliable entity list or the Mofcom blocking statute.
But this is unlikely to stop US firms from investing in China — the business opportunities are just too great. “US firms are still very eager to enter the Chinese financial services industry, particularly because that sector has liberalised,” says Marro.
In May this year, US bank Morgan Stanley spent US$150 million ($202 million) to increase stakes in both its securities and mutual fund joint ventures in China, as it takes advantage of China’s lifting of ownership limits of this industry with effect from April 2020. Goldman Sachs announced a similar move late last year and JP Morgan indicated similar interest.
After all, as part of China’s recently announced 14th Five Year Plan, the country is pursuing economic and financial liberalisation. Chinese retaliation will likely be targeted, as Beijing wants to show that its economy is still open to the rest of the world.
And listing in the US still holds great allure for Chinese businesses too in spite of the more difficult business environment in the US. In the busiest quarter for overall US IPOs since 2000, says EY, half of the 36 overseas IPOs in 1Q2021 came from firms from Greater China. Biden’s recent decision to revoke the Trump administration’s ban on Tiktok and Wechat could also see hope of a reprieve for Chinese firms in less sensitive areas.
But there is still at least some risk of a “sanctions race”, even if it is unlikely that the US will respond to the new law with explicit “tit-for-tat” retaliation. “Chinese measures are in response to Western sanctions over China’s actions in Hong Kong and Xinjiang. We aren’t expecting China to change or reverse its policies there, suggesting that future Western punitive measures are likely,” warns Marro, noting that there is still a big chance of being sucked into a “vicious cycle”.
Business as usual
Despite the dark clouds of the trade war, investors have not been unduly fazed. Brian Arcese, portfolio manager at Foord Asset Management, tells The Edge Singapore that US firms are only required to divest their holdings of firms on the US watchlist within a year, with the US Treasury open to exemptions or extensions under extenuating circumstances. In any case, only 0.4% of the outstanding equity of the 59 firms named by Biden are actually in the hands of US firms, meaning that the move, while headline-grabbing, will not cause upheaval in the markets.
That being said, Arcese acknowledges that despite the relative lack of disruption to markets, firms named on the list are likely to face real economic concerns from other measures affecting their operations. For instance, several specific Chinese surveillance manufacturing companies have suffered losses as the Federal Communications Commission banned their products from being used in the US. The Chinese Anti-Sanction Law has not hurt US firms too badly, as it is generally more difficult for US firms to sell into China than for Chinese firms to sell to the West.
“We’re still quite constructive on the Chinese consumer and Chinese technology, but companies that would by and large be bigger in the domestic market,” Arcese says, noting that they will be less affected by US regulations. Without concrete steps by the G7 to implement similar measures against China, global funds will still be keen to invest in Chinese markets, though US investors will of course no longer participate. Hong Kong and even local Chinese markets will benefit from large Chinese firms choosing to list at home instead of in the US.
More salient in fact, says Arcese, are domestic factors such as Beijing’s recent move to crack down on Chinese technology companies, which it perceives as becoming too monopolistic and unsustainable in their business practices. Furthermore, these firms are also bearing the brunt of Western regulators, who suspect them of threatening their national security. Lucy Liu, portfolio manager at Blackrock, sees the crackdown as being a multi-year policy response as Beijing seeks to bring tech firms into a more normal regulatory framework.
As of June 4, the Hang Seng Tech Index has slumped 25% since its February peak, though Hyomi Jie, portfolio manager with Fidelity International, believes that at least Beijing’s disciplinary action is closer to its end than its beginning.
“A couple of months back, valuation was a reason for me wanting to trim these stocks, even though I really like their fundamentals,” she tells Bloomberg. But the sanctions have since resulted in tech giants like Alibaba and Baidu looking cheap. Given their still massive growth potential, Franklin Templeton portfolio manager Peter Sartori says that Chinese tech stocks have an attractive earnings outlook over the next five to 10 years.
