Haitong block shocks Hong Kong

IFR 2091 11 July to 17 July 2015
6 min read
Fiona Lau

Extreme volatility and a 20% discount on a US$800m-plus block trade from a Chinese state fund have raised fears that recent share sales have exposed Hong Kong to the kind of trading patterns more often seen in the mainland’s far less mature equity markets.

The distressed share sale also offered a reminder of the risks investment banks take by providing share-backed financings to their Chinese clients at a time of major market volatility.

In a week rich in dramatic developments, when Chinese shares first crashed and then rebounded after regulators orchestrated a rescue, the most eye-catching news from Hong Kong was a HK$6.33bn (US$816m) selldown by Haixia Capital, a state-owned Chinese investment fund, of its entire stake in Haitong Securities.

The sale followed heavy selling of Chinese brokers in Hong Kong, with Haitong’s stock sinking by a total 26% on Monday and Tuesday.

Yet, after the close on Tuesday, UBS, acting as sole bookrunner, announced the placement of Haixia’s stake at an indicative price range of HK$11.12–$12.00, a discount of 13.7%–20.0% to the pre-deal spot.

The shares were eventually sold at HK$11.12, representing a 20% discount and adding up to a HK$3.45bn loss for Haixia.

The fund, part of China’s State Development & Investment Corp, had bought Haitong stock in a private H-share placement of HK$33bn at HK$17.18 each, announced last December and completed only last month.

Margin call

Despite the terrible backdrop, Haixia Capital had no choice. According to bankers involved in Haitong’s private placement, Haixia got a loan from UBS to take part in the placement and used the Haitong shares it purchased as collateral for the loan.

It is understood that Haixia was forced to dispose of the stake after plunging stock prices triggered a margin call. Under pressure not to sell mainland shares to avoid adding to a market rout, the fund had few options. UBS and Haixia declined to comment.

“They probably leveraged up initially for the placement. The selldown was definitely from a margin call. Otherwise, who will sell at such a deep loss?” said a banker away from the transaction.

“Chinese brokerages have raised billions of dollars from the market in the past months through IPOs and private placements. Many of these transactions were funded by loans provided by the arrangers. I won’t be surprised to see more selldowns driven by similar margin calls,” said the banker.

Indeed, on the night of the Haitong block sale, some banks were sounding out investors about a potential selldown in China Galaxy Securities, according to a fund manager who was approached.

Galaxy raised HK$24bn from a private placement in April. As of last Tuesday, shares of the brokerage were 45% below its placement price.

Leverage risks

In the past few years, Chinese funds have been the main buyers, often as cornerstone investors, in many Chinese IPOs and H-share private placements. Lending to the funds has been good business for investment banks.

“We have been doing this for years. It’s never been a risky business. It’s a client you know well, and you have shares as collateral,” said one Hong Kong equities banker.

The difference now is that tighter trading links between Hong Kong and mainland markets are generating unusual levels of volatility in Hong Kong.

“We are talking about losing 30% to 40% of market capitalisation in a few days for China’s leading securities firms – not a small, dodgy Chinese firm”

Last Wednesday, the Hong Kong bourse suffered its biggest fall – with the Hang Seng Index down 5.8% – since the global financial crisis, as the equity rout in mainland China rippled over the city.

With close to half of all listed companies in China suspended from trading and state-owned companies and funds ordered not to dump shares, sellers flocked to Hong Kong instead.

“The sell-offs were so heavy that we could never imagine before it would happen in the Chinese brokerage sector,” said a banker who worked on the Galaxy placement. “We are talking about losing 30% to 40% of market capitalisation in a few days for China’s leading securities firms – not a small, dodgy Chinese firm.

“Under such market volatility, banks will definitely be more careful on share-backed financings in the future,” said the banker.

Sector rebound

The huge discount on the Haitong selldown dragged brokerage stocks down the following day. Even Citic Securities, China’s biggest brokerage, plunged by more than 22% at one point. Shares in GF Securities and Huatai Securities ended the day down 5.17% and 13% respectively, after plummeting more than 25%.

Haitong’s H-shares were suspended that day pending a share repurchase announcement, giving investors who bought into the block trade a nervous wait.

Supported by a 3.73% rebound in the Hang Seng Index and more share buybacks across the sector, brokerage stocks jumped by 15% to 24% on Thursday.

Haitong fell just 0.58% to close at HK$13.82 after trading resumed on Thursday. The closing price was 19.5% above the placement price but still down 50% from an all-time high of HK$27.9 on April 9.

The Haitong block was well covered. The top five investors got more than 60% of the allocation. Demand came mainly from international hedge funds and long-only funds, followed by China funds.

Haitong International logo