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To celebrate the University of British Columbia’s centennial, we asked UBC Sauder professors to tell us about imminent changes in business that will transform our daily lives. From the green economy to internet security we asked them, “What’s next?”

 

Who:

Professor Kai Li, W. Maurice Young Chair in finance at the UBC Sauder School of Business, and senior associate dean, equity and diversity. Li specializes in corporate governance – including executive compensation, activist shareholders, and mergers and acquisitions – as well as the Chinese economy and stock market.

What's Now:

Because of its economic might, China has become a leading player in the global economy, explains Li, and its stock market is ranked second in the world in terms of market capitalization.

From 2005 to 2007, the Chinese government introduced market reforms, which allowed for more tradable shares and less government involvement. Still, she says, roughly half of the market is owned by the government or government-affiliated entities.

“A very high proportion of shares are still owned by the state,” says Li. “That’s very, very different from all the other developed markets in the world.”

There is also extreme volatility, with individual retail investors making up a large proportion of the market, and very little participation from more savvy institutional investors, especially foreign ones.

Kai Li China Stock Market

“Chinese are known to approach investing with a gambling sensibility,” says Li, adding that many retail investors put their entire life savings into the unpredictable market as it rose meteorically, and lost big when it tumbled by 30 percent in mid-2015. It later recovered much of its value, then crashed again at the start of 2016. “Many of them know nothing about stocks or stock markets.”

What's Next:

Li says that, for a more stable future in Chinese markets, there needs to be fundamental restructuring in several key areas.

One is deepening economic reform, with a stronger push toward a market-driven system and less state interference. Multiple times in the past year, the government shut down markets in an attempt to curb steep stock slides, and last month, it fired the head of China Securities Regulatory Commission for failure to stabilize the market. Also, she says, the process by which companies go public must be based on merit, not government approval.

Another is an overhaul of the banks — the largest of which are state-owned with no interest in shareholder value creation — where, she notes, corruption still exists, credit decisions are made without profit maximization in mind, and their balance sheets may not be what they appear.

“Banks often lend based on connections, not risk-return tradeoff, and firms often fail to repay their loans. Because the banks don’t have shareholder value maximization in mind when making lending decisions, there’s little motivation to get tough on borrowers,” says Li. “There’s no incentive for them to monitor borrowers or cut them off.”

But it’s not enough to introduce changes, argues Li. Market reforms must come with strong enforcement of securities laws and investor protection as a priority.

When the Chinese stock market was first created in 1990, she explains, they carefully copied the structure and systems of the United States Securities and Exchange Commission — but because the rules aren’t enforced, they aren’t followed.

“Insider trading and white collar crimes are rarely prosecuted in China, so insider trading is common,” says Li. And because many of those insiders are directly affiliated with the government, nobody is looking out for everyday investors. “They have zero voice.”

Investor education is also essential to the future of the Chinese market, adds Li. A small number of investors have made fortunes in the unpredictable market, but many more have lost everything.

“Stock market participants need to know the ins and outs, and also the pitfalls. Put bluntly, the Chinese stock market is worse than a casino,” she says. “It’s not a fair game.”