As short sellers target
Chinese companies in Hong Kong, hostility mounts
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[August 07, 2017]
By Michelle Price
HONG KONG (Reuters) - Short sellers are
increasingly targeting Hong Kong-listed Chinese companies they allege
have committed accounting tricks, market manipulation and fraud. And
that’s despite mounting hostility faced by investors who bet against
This year, there have been nine campaigns by short sellers against Hong
Kong-listed companies as of mid-July, a record for the period, according
to data from Activist Insight. This time last year there had been only
two and in 2015 six. Short sellers said increasing capital flows between
mainland China and Hong Kong, spurred by Beijing’s recent moves to open
up its equity markets, were exacerbating corporate governance problems
in Hong Kong.
“We suspect the increased capital flows between the mainland and Hong
Kong have encouraged more stock manipulations and frauds in Hong Kong,”
Carson Block, founder of Muddy Waters and among the most prominent short
activists, told Reuters in an email.
But calling out these frauds is not for the faint-hearted. Those betting
against companies encounter a bitter response from their targets, as
well as from the shareholders in those companies and from the Chinese
authorities. The short sellers say the backlash can come in the form of
litigation, smear campaigns, arrests, hacking of their information,
surveillance, physical assault and death threats - against them, their
staff and even their families.
Dan David, the 48-year old co-founder of U.S.-based short activist
GeoInvesting, says he has received emails detailing how he might die,
has been the target of multiple attempted hacks, sued three times
unsuccessfully, and confronted in his driveway by an angry investor.
"People would rather make money on a fraud than lose money on the
truth,” said David, who unveiled his most recent campaign against food
manufacturer China's Dali Foods Group <3799.HK> in June.
David claims the company has implausibly low expenses and salary costs,
while its tax filings display troubling inconsistencies. The company has
denied the allegations, which it says are misleading and based on
selective information. SMALL PUBLIC FLOATS The short sellers borrow
stock in a company and then sell it to take a short position – their
hope being that they can buy the stock back at a lower price and close
out the position at a profit.
(For FACTBOX showing companies targeted:)
David and other short sellers focused on mainland Chinese stocks listed
in Hong Kong say that poor regulation, weak enforcement and small public
floats means there are more stocks overvalued in the territory than in
other major markets.
China’s strict investment rules make it all but impossible to take short
positions in individual domestic-listed Chinese stocks from overseas.
Some companies may have used accounting tricks to overstate their
profitability, or have over-promised – perhaps they have a fad product
whose popularity will fade quickly.
Critics say short sellers are cynical opportunists who destroy
shareholder value for their own gain. The shorts counter by saying they
are a force for good, going to great lengths to expose fraud and
persistent problems with listing and governance standards in the city.
In June, Christopher Cheung, who represents financial services and
business interests in Hong Kong’s legislative chamber, called on Hong
Kong's Securities and Futures Commission to more tightly scrutinize
short sellers, saying they had caused “serious disturbance to market
order” in Hong Kong and hurt investors.
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Carson Block, Chief Investment Officer, Muddy Waters Capital LLC.,
speaks at the Sohn Investment Conference in New York City, U.S. May
4, 2016. REUTERS/Brendan McDermid/File Photo
In a statement, an SFC spokesman said: “The SFC considers that responsible
research can all contribute to the overall market quality and price discovery
process and has no intention to suppress legitimate commentaries on listed
companies, whether positive or negative.”
Though less prominent than peers such as Block, David - who is also chief
investment officer of hedge fund FG Alpha - has been seeking to expose dodgy
dealings at Chinese companies listed outside the mainland since 2010.
He typically sets to work screening for a range of tell-tale signs, including
auditors, brokers and investment banks that have a track record of working for
Some firms, such as Asia-based Blazing Research, also solicit tips and will pay
"handsomely" for useful information, it told Reuters in an email.
Many firms hire private investigators to review a company’s operations in China.
They can spend months pulling business registrations, poring over tax filings,
counting truck traffic or point of sale terminals (sometimes after installing
cameras), appraising land claims, and quizzing nearby residents. They are often
looking to see whether the reality on the ground matches executives’ statements.
But such tactics can backfire. On one occasion, a member of David's team was
beaten-up by security guards who spotted him counting trucks driving in and out
of the company's factory. Sometimes it is worse than that. AlfredLittle.com's
researcher Kun Huang, a Chinese-born Canadian, was convicted of criminal
behavior and jailed in China for two years and then deported.
David and Block have also received anonymous threatening emails. One received by
Block in 2010 mentioned his wife Kathy, asking: "Are you, Kathy and your dad
ready for a bullet?" Block moved to California the same year and now minimizes
his time in Hong Kong, which he said is becoming a riskier environment for short
sellers because of Beijing's increasing influence in the former British colony.
As Chinese companies grow savvier to short tactics, betting against them has
become riskier. They are faster to rebut allegations and they also more often
openly attack the short sellers’ credibility, making for more drawn-out,
They will call on large shareholders or friendly funds and brokers to help prop
up the share price or to suck up the supply of borrowable stock, making it more
expensive to cover short positions.
"Some Hong Kong stocks have a very limited public float, making it easy for the
controlling shareholder to prop up the share price even though the company is
indeed fraudulent," said Blazing Research in an email.
It is unclear if Block made or lost money on his December campaign against China
Huishan Dairy <6863.HK> after the company quickly halted its stock and announced
the chairman was increasing his stake. The share price subsequently rose and
stabilized until plummeting 85 percent on March 24.
"Being right and making money are two different things. Most of the time they do
intersect for us, but not all of the time,” said Block in June.
(Reporting by Michelle Price; additional reporting by Elzio Barreto and Twinnie
Siu in Hong Kong; Editing by Martin Howell)
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