China is capable of dealing with capital outflow given its massive US$4 trillion foreign exchange reserve.
It managed to stabilize the renminbi amid huge capital outflows in the last quarter of 2012.
But in order to maintain a stable environment for reform, the renminbi may be allowed to weaken by up to 6 or 7 percent this year, more than the 5 percent expected by the market.
And the government may cut the reserve requirement ratio for commercial banks three or four more times.
Meanwhile, interest rates have a limited downside of 0.75 percent to 1 percent amid an anti-corruption drive and state-owned enterprise (SOE) reform, coupled with increased initial public offering (IPO) activity.
World markets also face uncertainty.
Troubled Greece could fall into a situation wherein other nations might be prompted to leave the eurozone. A stronger US dollar is exacerbating market concern over an imminent hike in US interest rates.
These developments could make the Hong Kong and mainland stock markets very volatile.
It’s always a difficult decision for investors to put their money in SOEs or private firms when China’s anti-corruption campaign could hurt both sectors.
On the other hand, investors could take advantage of a buying opportunity by investing in stocks rendered cheap by a corruption investigation.
But these companies also face the risk of indefinite trading suspension or liquidation.
In most cases, a senior management reshuffle will take place, and after everything settles down, it will be business as usual.
High-speed railway projects and infrastructure development were among the first to be targeted by China’s graft-busters.
China Unicom (00762.HK), Dongfeng Motor Group (00489.HK), China Shenhua Energy (01088.HK) are all under scrutiny. Any negative news could trigger a sell-off, giving investors an opportunity to snap up bargains.
Coal mines, oil companies, property developers and financial firms are also being closely watched.
Sooner or later, the internet and telecom sectors, healthcare and media will come under scrutiny.
Beijing intends to halve the number of central SOEs from 114, creating further uncertainty in the sector.
Private companies are not immune to the tightening noose either.
Meanwhile, many conglomerates are moving assets in order to bolster development in their respective regions.
However, their competitive advantage may disappear the moment the local government leadership changes.
For example, investors were exposed to the protracted trading suspension of Kaisa Group (01638.HK). Now they face the prospect of a sharp fall in the stock price even after Sunac China Holdings (01918.HK) agreed to buy 49.25 percent of the troubled company.
Investors should pick SOEs that have already passed the test of good governance from corruption investigators.
Also, they should be wary about the political risk in internet and telecom plays.
The central government will support the internet and telecom industries in the medium and long term but the rapid expansion of Alibaba is coming at the expense of vested interests.
Now those vested interests are set to fight back.
In this kind of market environment, minority shareholders could be at a disadvantage.
Which is why the Hong Kong government should consider allowing class-action lawsuits to protect their interests.
This article appeared in the Hong Kong Economic Journal on Feb 10.
Translation by Julie Zhu
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