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Conference nyoss1::market_investing

Title:Market Investing
Moderator:2155::michaud
Created:Thu Jan 23 1992
Last Modified:Thu Jun 05 1997
Last Successful Update:Fri Jun 06 1997
Number of topics:1060
Total number of notes:10477

269.0. "Cross-Posting: Barron's Article on Hong Kong" by SOLVIT::CHEN () Mon Aug 24 1992 13:26

    WARNING:  This is a LONG article
    
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Note 11.3585                News reports from the net               3585 of 3611
FORTSC::MOK                                         280 lines  19-AUG-1992 09:42
                      -< Barron's: Skeleton at the feast >-
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Skeleton at the Feast

China's Shadow Falls Across Hong Kong's Boom

Barron's. August 17, 1992.

By MAGGIE MAHAR

AS EVERY international investor knows, Hong Kong remains one of the last
places on earth where you can make money 'Eighties-style: The Hang Seng Index
has tripled since "Six Four," the English translation of a Chinese expression
for the June 4, 1989, Tiananmen massacre.

Enthusiasm for the Hong Kong market is widespread, not only on Wall Street but
on the island itself, `among what Hong Kong newspapers call its 
"arch-capitalists," entrepreneurs like movie magnate Run Run Shaw (who 
recently bought a 10% stake at Macy's) and Gordon Wu, the high-profile 
developer who snagged the contracts for a sizable chunk of China's 
infrastructure.  In particular, investors have been leaning toward shares that 
offer a "China play," a chance to participate in the building boom in southern
China's free economic zones.

Only a financial naif like Fred Shapiro, a Hong Kong-based journalist who 
writes not about business but about the richly ambiguous politics of the 
region, questions whether the boom economy will continue as Chinese control 
grows.  "Walking into Hong Kong is like walking into a Las Vegas casino where
everyone is making what looks like crazy bets, pulling another card on 17," 
Shapiro says, "and yet the people making the wagers aren't losers.  They're
the Big 10 Magnates of Hong Kong.  Which raises two possibilities: No. 1, the
game is rigged and they know it - they believe private assurances from the  
Chinese that the boom will continue.  Or, they're shills.  They're trying to 
get people like me to invest."

Meanwhile, in Hong Kong, Kevin Murphy, the deputy business editor of the South
China Morning Post, reports, "The mnarket here is buoyed by U.S. investors.
The only thing we keep trying to determine is - how deep is their interest and
commitment?  Our market will stay buoyant as long as they keep pouring money
in."  In other words, while Wall Street's global investors take heart from 
Hong Kong's most bullish native investors (after all, if Run Run Shaw is so 
rich, he must be smart) investment types in Hong Kong point to the Wall 
Streeters who invest in Hong Kong (no doubt rich, so smart, too) as proof that
Hong Kong's stock exchange will meet projections by rising 25% this year.  The
irony in this circle of mutual admiration is that if either side falters in 
his faith that the other side is in the know, the boom could go bust.

A dispassionate view of Hong Kong discloses some prominent caveats.  First,
the market may be overheating.  Further demand may be nearing a point where 
it's sated just when the supply of new issues is still multiplying.  "In 1987,
the peak of the last major boom, the Hong Kong market saw a 7% increase of 
market capitalization due to new issues," noted Michael Sofaer, managing 
director of Arral Associates, a Hong Kong-based hedge fund. "In '92, the 
market is heading into a similar bulge: $12 billion in new issues by the end 
of the year, added to a $150 billion market."

Another danger sign concerns interest rates.  Short-term rates are currently
3% and the cheap credit has created an inflated real-estate market that, as in
Japan, serves as the underpinning for the quity market.  A rise in rates, of 
course, would start to let air out of the balloon.  Finally, millions of 
dollars of institutional money allocated to Japan has fled the plunging Tokyo
market and found its way to Hong Kong.  The hot money, nothing if not fickle, 
could vanish at first sign of trouble.

But the most serious threat to the Hang Seng Index has more to do with 
politics than economics.  The question mark of what happens in Beijing after 
Deng's death hangs over a market swollen by success to the point of 
complacency.

Ironically, at precisely the time that investors have become sanguine about 
this enormous political risk, the People's Republic has been making it 
increasingly clear that it plans to take full control of Hong Kong's politics
and policies.  And it's not waiting until 1997, when the island is officially
ceded back by the British, to do so.

In March, China's Minister of Public Security, Tao Siju, said that the Hong
Kong branch of the New China News Agency has been "accumulating information
about people who are against the Chinese government," Shapiro reported in a 
recent "Letter From Hong Kong" published by the New Yorker.  The same month, 
Shapiro notes, the People's Republic appointed its own Hong Kong "advisory
body made up of Hong Kong's most successful businessmen."  A promising sign -
until the formal induction ceremony in mid-March, when it became clear that 
the advisers might better be called advisees.  While being presented with
their embossed certificates, Hong Kong's entrepreneurial finest were informed
"that their function wsa to explain to the people back home the policies of 
the Chinese government.  How the concerns of Hong Kongers would be represented
to China appears not to have been discussed."

Meanwhile, China apparently has decided not to privatize Radio Television 
Hong Kong.  Shapiro observes that "the proposal to offer RTHK facilities and
electronic franchises for sale to private owners has been deferred, perhaps 
permanently," by the Joint Liaison Group, a panel of five Chinese officials 
and five representatives of Britain and Hong Kong that, Shapiro reports, has 
been growing in power while the influence of Hong Kong's Legislative Council
wanes.

In taking control, the People's Republic is not always discreet.  Most 
recently, Beijing horrified the U.K. by telling Christopher Patten - who took
office early last month as Hong Kong governor, appointed by Prime Minister 
Jphn Major - that it expects to be consulted in the selection of Patten's 
"executive council," the equivalent of a cabinet in the U.S.

Hong Kong exists at the pleasure of Beijing, dependent on the mainland even 
for its water supply - which is why Britain had no choice but to give it back 
to the People's Republic, and its economic fate is no less tied to the 
mainland.  What's noteworthy is that the relationship is symbiotic.  Hong Kong
corporations have not invested $10 billion in China's new capitalism, while 
China, in turn, has invested $11 billion in 4,000 Hong Kong corporations.  
Shapiro reports that "the Chinese government is either the majority or sole 
shareholders in many of the Hong Kong joint venture.

What this means is that if China loses most-favored-nation status, Hong Kong 
is adversely affected, as well.  And a Clinton Administration might pubish 
China for human rights violations by suspending such status.  Just as likely,
the imbalance of trade could persuade Washington that Beijing no longer 
deserves preferential treatment.  At the end of the first five months of 1992,
the U.S. trade deficit stood at $5.7 billion.

But Hong Kong could lose even if China prospers.  For the island may become a 
redundancy if the mainland thrives, a middleman that's no longer needed.  "The 
whole notion that in 10 years' time, the whole world will fly in and out of 
China through Hong Kong is totally absurd," contends Marc Faber, a long-time
Hong Kong money manager and resident skeptic.

Perhaps most disquieting about the future of Hong Kong is the uncertainty 
surrounding the future of China.  Its leader, Deng Xiaoping, is 87 years old
and without a clear successor.  Indeed, the history of China over the past 
four centuries has been that succession, most often than not, is a problem.  
China has enjoyed "unity" only since 1949, and it was unity imposed via an 
iron fist, first under Mao, then under Deng.  If that precedent of enforced 
solidity holds under Deng's successor, then, at best, Hong Kong is assured
relatively little autonomy over its economic and political destiny.  Worse, if
China splinters after the death of Deng, a struggle for power over Hong Kong
wealth is inevitable - and inevitably nasty.

Already, the hard-liners are making their presence felt.  Last January, 
according to a report in the Hong Kong Standard, 13 "veteran leaders" 
petitioned the Party Politburo to abolish all of southern China's Special 
Economic Zones - the regions where a burgeoning capitalism blooms.  In 
response, Deng, who is theoretically now a private citizen, holding neither
government nor party office, appeared publicly to defend the zones and the 
free-market reforms that his government carved out in the 'Eighties.  
Traveling to Guangdong, he warned, "China might be on guard against the 
right."

So far views Deng's appearance as a "sign of some panic in Beijing.  So, they
pumped Deng full of drugs and put him in front of the television cameras - he
has no successor with his authority."  Shapiro empahsizes his retention of 
control: "It now appears that Deng, like Mao in the Cultural Revolution, has 
been successful in snatching power back from the government he himself 
established.  However, just as Mao's ideology did not long survive the Great
Helmsman, it is possible that Deng's reform may not long outlast the Senior 
Leader."

What happens after the death of Deng, Faber says, "is anybody's guess.  It 
could be the Guangdong provincial authority, the central government, the 
People's Liberation Army or a confusing combination of all of the above take
charge."

Even if everything goes relatively smoothly - and the power struggle is 
somehow resolved behind closed doors - the uncertainty, for Hong Kong, will be
deeply unsettling.  If the prospect of a Perot Presidency caused some veteran
observers on the Street to predict a growing disturbance in this market, 
consider the paroxysms likely to shake hong Kong as a changing of the guard in
Beijing becomes not speculation, but fact.

Yet at the moment, Tiananmen seems a long time ago in the fast-paced world of 
Hong Kong.  "There's a mood of complacency in Hong Kong on the part of the 
investing public," says hedge-fund manager Sofaer.

Sofaer has been bullish on Hong Kong since 1979, when he moved to that city,
planning to stay two years.  And even when a homesick Sofaer returned to 
London in '86, his business, his entire staff and his main office remained in 
Hong Kong, where Arral manages total assets of $80 million, divided more or
less evenly between two funds: Arral International and Arral's Asian Fund.
Investments in the Asian Fund were up 40% from last year, 23% - thanks largely 
to the appreciation of Sofaer's Hong Kong portfolio.

But four weeks ago, Sofaer begin shrinking the fund's Hong Kong exposure, 
down from 40% to "below 30%," he reports, and "We plan to continue adjusting
the protfolio.  We're shorting futures on the Hang Seng Index and cutting our
exposure to volatile stocks, mainly real-estate development companies.  We 
feel the market is vulnerable to a correction, which could be sizable, and the 
upside is limited."

"At this point, Hong Kong is widely traded because it's up hugely, and the 
rest of the world is down," Sofaer warns. "Given that, there's a natural
inclination to nail down profits where one has them, before they evaporate, 
especially given other uncertainties.  For example, inflation in Hong Kong has 
been high for years, running about 10%, yet interest rates are as low as 3%, a
bizarre situation created by the fact that the Hong Kong dollar is pegged to 
the U.S. dollar - meaning that interest rates move not in response to local 
inflation, but to interest rates in the U.S."

Negative real interest rates have caused the gargantuan inflation in propertyy
prices, as even small investors have moved out of savings accounts and into
the real-estate and stock markets.  "But if the U.S. economy should start to
strengthen in the next few months," Sofaer cautions, "Hong Kong rates will 
firm.  Add to that to high demand for money in Hong Kong, not just from the 
private sector but from the public sector that's building a $12 billion 
airport, and I'm not sure how the financial sector is going to cope."

And that very costly airport could prove a white elephant.  Faber argues that 
Hong Kong is spending too much, too late - that, over the long run, Hong Kong
will be overshadowed by China itself.  Already, the success of economic
development in China's Guangdong provincemeans that the cost of doing business
there has risen sharply.  "This will cause manufacturing facilities to move
further north and inland in order to stay competitive," Faber reasons.  And 
the farther away from Hong Kong these factories are located, the less 
important the island, with deep water its only resources, becomes.

Hong Kong, in other words, may be a mini-empire that is about to enter a 
decline, building an airport-monument to itself at a time when its glory days
are peaking.  "Combine that with the vulnerability of the market to political
surprise, stroke or shock," Sofaer says.  And, he adds: "The Chinese have a 
tendency to come out with something that takes your legs away."

China's movement toward a more open society has hardly been uninterrupted.  
Even before Tiananmen Square, student demonstrations broke out in 1976, 1978, 
1986 and 1987.  In the last year, students defied police bans and held a 
massive rally in Tiananmen Square itself.  A few days later the government
announced it was creating a new state agency to control all publication and 
press in the People's Republic.

Yet, part of the recent confidence in Hong Kong, reflected in its boiling 
stock market, indicagtes an evident belief that China has one foot in 
capitalism's door, and from now on, progress will be straight as an arrow.
"People say, 'Yes, there's going to be an increase in political tension," 
comment Safear, "'but we're there, now.  We have the airport.'  And they say, 
'Look at China's purchase of 9 Icehouse Street, paying $4.9 billion for a 
building in central Hong Kong.  Why pay for it if they can take it in a few
years?"

"I'bve always been a bull, pointing out how much China has invested there," he
continues. "And longer term, we're still bullish.  But these things go 
through cycles - it's not going to be a smooth path."  And right now, he sees
several dangers stemming from modernization in China itself.

First, Sofaer worries that "one part of the People's Republic is growing four
times as fast as the other, much larger part of the country.  That could lead 
to a sense of deprivation once this information is disseminated.  Second, and
more important, there's a fantastic amount of corruption, and it's the
officials tjemselves who are corrupt.  Third, there's the danger of 
overheating.  Southern China may be growing too fast."

"And these guys are not experts in economic management," he points out, 
referring to the central planners in Beijing. "To them, slowing things down 
means slamming on the brakes, which can be head-snapping."

Already, the centrifugal pull of "free-wheeling" economic activity in China's
southern provinces is putting great strain on the central authority of 
Beijing.  And the effect is being felt in Hong Kong, where "free enterprise"
has come to mean smuggling on an ever-vaster scale.  Of course, for the past
151 years, officials in China's southern Guangdong province have tolerated -
and some say colluded in -smuggling from Hong Kong of both stolen and 
legitimately purchased goods.  But recently, things have been getting out of 
hand.

In his "Letter From Hong Kong," Shapiro quoted an electronic-industry
executive estimating that half the television sets, videocassette recorders
and air conditioners sold in Hong Kong are being smuggled into China.  That 
would mean that around $650 million U.S. dollars worth of consumer electronic
merchandise is being illegally shipped into China, or 30 times the amount that
Hong Kong customs offices seized in China-bound contraband.

As evidenced by their massive investments in the island, the powers that be in
China want Hong Kong to prosper.  Yet if the enlightened economic self 
interest of China would wish only for Hong Kong to enjoy greater and greater
economic growth, Shapiro warns, "China is notorious for shooting itself in 
the foot."  Just as Sofaer sees Beijing slamming on the economic brakes in a 
way that "snaps heads," Shapiro envisions a  political whiplash.

"Something will happen.  Someone in Hong Kong will make a remark.  China will
move in to arrest him.  China has a 'face' problem," he declares. "It hates to
see itself mocked, or made fun of.  And the fear of disorder - anyone who 
lived through the cultural revolution has good reason to fear disorder.  
Perhaps they will see some sort of threat or insult, and crack down."

Yet that possibility or even the inevitability of Deng's death and all it 
portends are not of great moment obviously to the local investors who have 
been bidding so feverishly for Hong Kong stocks - or their foreign 
counterparts who have been piling into that market.

T.RTitleUserPersonal
Name
DateLines
269.1Any updates?NWD002::SCHWENKEN_FRBorn to suffer fools.Mon Dec 23 1996 14:283
269.2Hang Seng looks good short-termICS::BONVALLATFri Jan 03 1997 17:049