Cornerstone investors weigh down HK bourse

The high percentage of cornerstone investors sharply reduces trading volume on the stocks, because the shares are locked up for at least six months.
The high percentage of cornerstone investors sharply reduces trading volume on the stocks, because the shares are locked up for at least six months.PHOTO: REUTERS

System letting them buy stakes in IPOs to hold saps trading vitality

HONG KONG • Hong Kong has a deepening love affair with a system that allows major institutions or rich individuals to buy stakes in initial public offerings (IPOs) before the companies sell shares to the public but it may be undermining the vibrancy of its stock market.

The world's biggest IPO venue is unique in the way it has used "cornerstone investors", who agree not to sell the stakes they buy in the offering within a specified "lock-up" period, to a much greater extent than any other major market.

The Hong Kong system has often been held up as one that bolsters confidence. It signals that big investors and the smart money are committed to the company doing the IPO, and they are not going to bail out as soon as trading starts. But now, the cornerstone investors are taking up such a large percentage of the IPOs that there is little left for other investors, hurting liquidity once the shares start trading.

The cornerstone money also becomes an overhang over the stock as the expiration of the lock-up period nears, and there are wider fears that the system is one of many signs that the market is losing its mojo.

Average daily turnover in the first five months of the year totalled HK$68.8 billion (S$12 billion), down nearly 44 per cent from the same period last year, while the benchmark Hang Seng index has tumbled about 27 per cent in the past 14 months.

"Large cornerstone tranches... create issues in terms of after market liquidity and share overhang, nearer the time of expiry of the lock-up," said ex-UBS and Nomura banker Philippe Espinasse.

Nine out of the top 10 offerings in the territory over the past year counted on cornerstones for about 50 per cent or more of their deal proceeds, underscoring the growing influence of these share sales in Hong Kong IPOs. Just two years back, cornerstone investors would typically account for only about one-quarter to one-third of an IPO.

Such a high percentage of cornerstone investors sharply reduces trading volume on the stocks, because the shares are locked up for at least six months. It also creates the overhang as investors fret about a sudden supply of shares hitting the market once the lock-up expires.

The trend has become more prevalent the past year as global markets have been on edge over a slowdown in China's economy and on concerns that US interest rates were heading higher.

Chinese state-owned companies tend to rely more heavily on cornerstone investors even during market downturns. They can often count on other state firms when global pension funds and asset managers stay on the sidelines, bankers said.

"State-owned enterprises make a plan to list and they stick to the plan. They're not going to pay attention to the realities and vagaries of the market," said an equity capital market banker. "Unlike most issuers elsewhere, they also have the ability to call in some favours and make things happen if they need to."

REUTERS

A version of this article appeared in the print edition of The Straits Times on June 25, 2016, with the headline 'Cornerstone investors weigh down HK bourse'. Print Edition | Subscribe