What happened
Shares of many Chinese companies rose significantly on Monday after Chinese regulators took more concrete steps over the weekend to resolve an auditing dispute that threatened to result in those stocks being delisted from U.S. exchanges.
As of 11:25 a.m. ET, shares of real estate platform operator KE Holdings (BEKE 3.38%) were trading nearly 15% higher, shares of online broker Futu Holdings (FUTU 6.21%) were up roughly 16%, and shares of UP Fintech Holding (TIGR 3.09%) were trading 11% higher.
So what
U.S. financial regulators have long been frustrated with their inability to satisfactorily audit the financial statements of Chinese companies trading on U.S. exchanges, and also their inability to audit those companies' accounting firms. China has long had regulations that prevented foreign accountants and foreign government auditors from viewing Chinese companies' working financials -- rules it said stemmed from national security concerns.
In late 2020, U.S. lawmakers passed the Holding Foreign Companies Accountable Act (HFCAA). The law states that Chinese public companies trading on U.S. exchanges can be delisted from those exchanges if their financials or auditors can't be adequately reviewed for three straight years. That threatens hundreds of Chinese stocks trading on U.S. exchanges.
Image source: Getty Images.
In recent weeks, the U.S. Securities and Exchange Commission has begun to publicly name some companies that could eventually be delisted due to the HFCAA. In response, Chinese leaders and financial regulators have made public statements indicating that they want to support Chinese companies that are listed on foreign exchanges. They also said they would work with U.S. regulators on solving the auditing dispute. Still, it was unclear if an agreement would actually be made; U.S. regulators took a hard line, saying Chinese companies would need to fully comply with U.S. securities laws.
In recent days though, Beijing seems to have grown more open to that. On Friday, media outlets reported that Chinese regulators were planning to make Chinese companies' financial statements available to U.S. regulators. The reports also said that the Chinese Securities Regulatory Commission had told its accounting firms to get ready for joint audits.
On Monday, Bloomberg reported that Chinese regulators now say they will change the rule that bans foreign-listed firms from providing foreign regulators with key financial data. Hong Kong's Hang Seng Tech Index rose 5.4%.
"The modification will partially address concerns of delisting risks if the cross-border regulatory cooperation could go smoothly as laid out per the rule," Citigroup analyst Alicia Yap wrote said in a research report Monday, according to Bloomberg.
Now what
Beijing's openness to supporting Chinese businesses and modifying their auditing rules to ensure that they meet U.S. standards is great news, particularly for a company like Futu, which was specifically named by the SEC as facing the threat of delisting. But investors should maintain a healthy degree of caution until there is a deal in writing between the two nations.
NASDAQ: FUTU
Key Data Points
"In order to negate investors' fears totally on the aspect of ADR (American Depository Receipts) delisting, we need to see or have some form of concrete actions finalized from China rather than pipelines framework that are still in the midst of drafting," CMC analyst Kelvin Wong said in a report quoted by Bloomberg.
Furthermore, these rule modifications may not save every U.S.-traded Chinese company from delisting. Those with data that China deems too sensitive could still be blocked from sharing the required financial data.
Progress on resolving this conflict, and the conciliatory attitude Beijing is taking toward it are undeniably good news for Chinese stocks, which have been hammered over the last year. Many of these companies have huge markets they can tap into -- KE Holdings, for example, runs the largest real estate brokerage platform in China -- and their shares are trading at beaten-down levels. But before opening positions in any Chinese stocks, investors should carefully study how various industries in China are faring. Both the macro pressures and the regulatory landscape can impact U.S.-traded Chinese stocks significantly.
