Bottom line: Orient Securities IPO should price and debut strongly on strong sentiment towards brokerages, which should perform well over the short- to medium-term if China’s broader economy continues to slow.
Despite new uncertainties about their future, Chinese brokerages continue to remain a hot ticket as investors bet they’ll benefit from a booming domestic stock market and new business from a pilot program allowing more foreigners to buy Chinese stocks. That’s my assessment following word that the biggest domestic IPO since 2011, from Orient Securities, has been massively oversubscribed by a factor of more than 90. Put another way, some $150 billion worth of investor money is chasing the $1.6 billion offering, meaning barely 1 in 10 investors will be able to get any shares.
Orient’s IPO follows a flurry of fund-raising by other Chinese brokerages, whose profits and broader prospects have soared in tandem with China’s surging stock markets. The Shanghai composite index is up nearly 50 percent since late October, after the central bank made a surprise move and lowered interest rates to boost China’s flagging economy. Investors are betting more money will continue to flow into the stock market as other investments — most notably real estate — lose their attraction as the economy continues to slow.
If the market continues to rise, we could see more mega-IPOs like this latest one from Orient Securities, which has the added attraction of foreign connections through its joint venture with US banking giant Citigroup (NYSE: C). According to the latest reports, Orient said institutional investors accounted for 46 percent of demand for its new shares, while retail investors accounted for the remaining 54 percent. (English article)
That kind of split would look unusual in more mature western markets, where institutional investors typically buy a big majority of shares in this kind of major new listing. But in China it’s quite typical, since such retail investors account for a far larger share of trading activity. In this case, I suspect that even more retail investors have been entering the stock market lately than usual, since many have been scaling back on their previous favorite pastime of betting on the country’s cooling real estate market.
The brokerage sector has profited directly from China’s stock market surge, since such companies make most of their money from commissions when investors buy and sell stocks. Investors are also bullish on the sector as China allows brokerages to engage in a growing number of other related businesses, such as short selling and margin trading.
Lastly, investors are also hopeful that brokerage profits will leap on a scheme launched last year that allows more foreigners to buy Chinese stocks using a link between the Hong Kong and Shanghai stock exchanges. That link will be expanded this year by connecting Hong Kong with Shenzhen’s stock exchanges, which are home to some of China’s fastest growing and most entrepreneurial companies.
On the downside, the brokerages could face new competition soon, after China recently announced it would allow banks to enter the sector. But frankly speaking, this looks like a much longer term risk, since the banks will require at least 3-5 years to seriously build up that business as they get the necessary licenses, set up infrastructure and look for customers. What’s more, brokerages could actually become buy-out targets for some of the largest banks like ICBC (HKEx: 1398; Shanghai: 601398), which could easily afford to buy even the largest players.
A growing number of brokerages have raced to capitalize on bullish investor sentiment to raise funds, with sector leader Citic Securities (HKEx: 6030; Shanghai: 600030), Haitong Securities (HKEx: 6837; Shanghai: 600837) and Guosen (Shenzhen: 002736) all making IPOs or issuing new shares over the last 6 months. The companies do look like good bets for now, especially if China’s stock markets keep rallying. That looks like a strong possibility if China’s economy shows continued signs of weakness, which should drive more money away from traditional investments and into the stock market.