China Rewards its Own

The real story behind the PetroChina A share issue in Shanghai this week is not, contrary to almost unanimous press reports, that it is now the world’s highest capitalized company and for a day was worth over $1 trillion. That is nonsense anyway. The value is extrapolated from the market price of just 2 percent of the company’s shares. The real story is the massive handout that Communist Party and corporate insiders have given themselves and how so much of the Shanghai market is rigged to maximize returns to a favored few.

Although the shares fell 9 percent on their second day of Shanghai trading, at RMB 40 per share they are still more than double their original offer price of RMB16.70. The Chinese Communist Party has presided over a gift to PetroChina insiders that could yield them a totaling (on the basis of the current share price) some Rmb25 billion. This is at the expense of the state at large and also of the millions of frustrated citizens who were unable to get A-share allocations.

The Chinese government claims to want to soak up excess market liquidity and give citizens a bigger stake in the national economy through share ownership. In practice it limits the size of issues and under-prices them so that those in the know clean up. The system is less obvious but only marginally less abusive than the one which enabled a handful of oligarchs to acquire vast chunks of the Russian economy through so-called privatizations.

The PetroChina arithmetic is very simple. The company has 179 billion shares in issue, of which 21 billion are H shares listed in Hong Kong since 2000. The remainder are A shares held on the mainland and until this month they were all owned by the state owned China National Petroleum Corp. The recent public issue was for 4 billion shares A shares. This leaves 86 percent in the hands of CNPC, 11.5 percent with the foreign H share holders, and a miserable 2.18 percent in the hands of the Chinese investing public. And of those, 25 percent were handed out before the public allotments.

Given the tiny number of shares made available to the public it was hardly surprising that, in a bull market, they would more than double when trading opened. That indeed is what happened, repeating a pattern that has been the norm with most A and H issues.

Those favored with the prior allotment have a lock-in period during which they cannot sell their shares. However, that lasts for just three months so there is every likelihood that they will be able to cash out with huge profits. For the sake of argument one must assume that the remaining 3 million shares offered to the actual public were fairly allotted. But the list of the favored would make very interesting reading.

The artificially contrived shortage of shares for the mainland public is ensured by CNPC’s undertaking not to release any more of its A shares for at least 36 months. (It may however release more H shares).

CNPC’s motives in selling such a tiny number of shares during a raging bull market are, to put it mildly, questionable. But don’t expect questions from the local media, or indeed from foreign financial sector players who claim to be keen to buy A shares one day. As it is, the state, via CNPC, is losing by failing to take advantage of the high price by selling a small number at a huge discount to prevailing A shares values. Local small investors will lose out by paying a huge premium for the doubtful privilege of owning PetroChina. But this way the insiders reap stupendous profits.

In almost any other market in the world, regulations would prohibit the listing of a stock in which only 10 percent of shares are in public hands. But in the PetroChina mainland listing the public float is a little over 2 percent. But the western investment banks are the fellow travelers in this communist sleaze.

Nor is it surprising that nationalist sentiment is on the rise in China when the local small investors find themselves paying 25 times the price that foreigners paid (HK$1.49) when the H shares were first listed in Hong Kong.