Slack-jawed Chinese farmers go long stocks

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This time it’s different.

And cross-posted from Investing in Chinese Stocks is more. Asia Investor: Managers Divided Over MSCI A-Shares Prospects

On Wednesday, June 10 at 5 AM HK time and Tuesday, June 9 at 5PM NY time, MSCI will announce whether A-shares will be added to the indexes.

Financial Review: The man who holds the key to China’s bull market

PineBridge has a stake in a Chinese mutual fund business and Kelly says speculation was swirling around the market about the inclusion of A-shares in the global index, which would prompt a flood of foreign buying.”There is a substantial market cap represented by the A-shares that didn’t get factored into the global index but if you did [investors] would be massively underweight China,” Kelly says. “And the whisper is that they will be included.”

Hong Kong-based portfolio manager Mark Tinker, of AXA Framlington, believes Chinese authorities “intend to exploit the indexation effect”.

By opening its capital markets and forcing the index providers to include its enormous sharemarket, foreign investors who have ignored China’s market are forced to take a view one way or another. To lower the risk of under-performance against their benchmarks, many will pile into an already rampant market.

“It will almost inevitably start to drag in index money, simply as a way of reducing risk and of course when the RMB becomes fully convertible, which may be quicker than many think, the rush to benchmark will be huge,” Tinker wrote in a note to clients.

But Chia says any possible inclusion of Chinese A-shares will be gradual, and will most likely result in the initial inclusion of a smaller, select group of shares. It took about a decade for Taiwanese and Korean markets to be fully included in their indices.

“China is likely to go through a similar process, where it takes multiple years to fully reflect the weight of China in the index. This depends on how China opens up their financial markets. If they decided tomorrow there would be no restrictions [on ownership], there would be no reason to wait 10 years.”

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Meanwhile, you were saying something about fake numbers?

An analysis of results from 500 major companies by The Associated Press, based on data provided by S&P Capital IQ, a research firm, found that the gap between the “adjusted” profits that analysts cite and bottom-line earnings figures that companies are legally obliged to report, or net income, has widened dramatically over the past five years.

At one of every five companies, these “adjusted” profits were higher than net income by 50 percent or more. Many more companies are in that category now than there were five years ago. And some companies that seem profitable on an adjusted basis are actually losing money.

It wasn’t supposed to be this way. After the dot-com crash of 2000, companies and analysts vowed to clean up their act and avoid highlighting alternative versions of earnings in a way that could mislead investors.

But Lynn Turner, chief accountant at the Securities and Exchange Commission at the time, says companies are still touting “made-up, phony numbers” as much as they did 15 years ago, perhaps more, and few experts are calling them out on it.

“The analysts aren’t doing enough to get behind the numbers that management gives them to find out what’s really going on,” Turner says.

Important:

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– Seventy-two percent of the companies reviewed by AP had adjusted profits that were higher than net income in the first quarter of this year. That’s about the same as in the comparable period five years earlier, but the gap between the adjusted and net income figures has widened considerably: adjusted earnings were typically 16 percent higher than net income in the most recent period versus 9 percent five years ago.

One of the biggest problems is companies that exempt “one-time” charges that are unique only to an extent. For example, the tobacco companies had many lawsuits. They could have treated each case as a “one-time” cost, but in truth it was a cost of doing business.

Boston Scientific, a maker of medical devices like stents used to prop open arteries, had adjusted profits of $3.6 billion in the five years through 2014, according to analysts’ calculations. But if you include a write-off for a failed acquisition, various “restructuring” charges and costs stemming from layoffs and lawsuits, it’s a different picture entirely: $4.9 billion in net losses.

Aluminum giant Alcoa has taken “restructuring” and related charges in 20 of the past 21 quarters. The company reported net losses of more than $900 million in the five years through 2014, but analysts have largely shrugged them off because they’re tied to a strategic shift that involves getting rid of unwanted businesses. Analysts prefer to point to the $3.1 billion in adjusted profits during that time.

Salesforce.com, a leader in cloud computing, routinely excludes the cost of stock compensation from figures it touts to investors, and analysts largely do the same. Analysts say the company earned $1.2 billion in adjusted profits in the five years through 2014. Its bottom-line result, including stock pay and other costs, was a $712 million loss.

And, breaking, from Forbes:

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The verdict is out. China is not ready for the big time…just yet. MSCI decided against including the A-shares in the MSCI Emerging Markets Index on Wednesday.

“Substantial progress has been made toward the opening of the Chinese equity market to institutional investors,” said Remy Briand, MSCI Managing Director and Global Head of Research. “In our 2015 consultation, we learned that major investors around the world are eager for further liberalization of the China A‐shares market, especially with regard to the quota allocation process, capital mobility restrictions and beneficial ownership of investments.”

Let’s see how the gap toothed take that rejection.

About the author
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal. He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.