Short Sellers’ Raid on Hong Kong Means Small Caps Go Cheap
Short Sellers’ Raid on Hong Kong Means Small Caps Go Extra Cheap
(Bloomberg) -- Shares of small Hong Kong companies haven’t looked this cheap in the last 10 years, as woes including flash crashes, short-seller attacks and a liquidity drought send investors fleeing.
The MSCI Hong Kong Small-Cap Index is trading at 8.9 times estimated 2019 earnings, compared with 14.5 times for a corresponding large-cap gauge. The valuation gap between the two hit its widest level since August 2009 this month, according to data compiled by Bloomberg.
Investor preference for large stocks emerged years ago in the city, after short sellers such as Muddy Waters Capital LLC mounted a spate of attacks on Chinese small caps with accounting irregularities. With a loss of 4.7% in 2019, the small-cap index is heading for a sixth straight year of underperformance relative to its large-cap counterpart.
Marble producer ArtGo Holdings Ltd., which had staged an almost 40-fold rally this year, plunged 98% on Nov. 21 after MSCI Inc. scrapped plans to add the stock to its gauges, citing “serious” concerns about the company’s float and liquidity. The index compiler received “comments from a range of market participants questioning the integrity of the publicly available float information” for ArtGo and the sufficiency of the stock’s liquidity, MSCI said in an emailed response to questions from Bloomberg.
Investment holding company China First Capital Group Ltd. and Virscend Education Co., which China First holds a minority stake in, both plummeted as much as 78% on Wednesday on no apparent news.
Kasen International Holdings Ltd. sank 90% on Nov. 21 after being targeted by short seller Soren Aandahl, founder of Blue Orca Capital LLC. The shares surged 478% the following day, after the Chinese furniture maker denied the allegations.
Investors have grown increasingly skeptical of small Hong Kong shares in recent years as the city is home to a web of cross shareholdings, epitomized by the “Enigma Network,” a name coined by activist investor David Webb who identified links between some 50 companies in May 2017. As traders shun the smaller stocks, their trading has slowed down to a trickle. The 30-day average volume for the MSCI gauge tracking them has dropped to a 10-year low this month, data compiled by Bloomberg show.
Hong Kong regulators tightened lending rules this year to keep brokerages from using illiquid small-cap stocks as collateral, after margin calls prompted some sudden plunges in the market.
To contact the reporter on this story: Fox Hu in Hong Kong at fhu7@bloomberg.net
To contact the editors responsible for this story: Lianting Tu at ltu4@bloomberg.net, Cecile Vannucci
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