I feel very humble being among you today. I am a foreigner and do not yet fully
understand the complexities of China or its emerging socialist market economy -- I hope to
better understand both in the future. I have been visiting China for only ten years; you
and your families have known China for longer than I. But I have been asked to try to give
you views from the perspective of a foreign investor and I will try to do so. I would
like to make several general observations before launching into our topic. I would first
distinguish between project finance and portfolio investment. Many of you are familiar
with project finance in terms of joint ventures which are privately negotiated, where
finance and management from the outside come together. I will talk about portfolio
investment in the stock market where typically the investor is not involved in management
and has a number of different investments.
Next, capital . . . it is competitive worldwide. There is a free market for capital,
for which projects and stock markets in China compete on a worldwide basis, not just
against other Chinese enterprises or other Chinese provinces, but against investments in
every country of the world. My company invests in about forty different countries. At any
given time, we might hold investments in five hundred different enterprises around the
world and we evaluate each of those enterprises and investment prospects against each
other.
I encourage you to have a worldwide perspective. The placemat I have provided shows a
different kind of map of the world and is an attempt to discuss the worldwide perspective
in which we, as a single investor, see China.
First, the question posed to me by the World Economic Forum: How does the stock market
work? I really think the question is intended to be: Why does the stock market work? How
the stock market works is straightforward. With a small computer chip the size of my
watch, stock markets will work very well. On a silicon (NOTE SPELLING) substrate, you can
have a fully functioning stock market, entirely computerized, handling all its
transactions in a fully open and transparent way. They are relatively similar wherever
they may be around the world. A stock market is, after all, nothing more than the traffic
cop -- the traffic policeman at the intersection who is trying to balance the flow of
resources -- capital resources coming in one way, and labor and materials resources going
the other. And the traffic cop raises his hand, which is what the stock market does, to
encourage it to flow across the intersection very quickly and safely. I've noticed in my
days in Beijing, including this time, that traffic cops in Beijing look very much the same
as they do in other countries, and they do very much the same thing. And so it is with
stock markets, as a traffic cop with capital. They may wear different uniforms, the hand
signals may not be quite the same, but they are familiar with one another, regardless of
country.
I'm going to talk in terms of a "socialist market economy." This is a term we
have heard a great deal this morning, and I suspect in the next day and a half of this
Forum, we will hear it again. I'm going to give you what is, in my view, the socialist
reason why stock markets work and, in socialist terms (if you will allow me to be
presumptuous), why a stock market may be more necessary for China than for almost any
other country in the development of a socialist market economy.
I have listed eight functions that a stock market should serve, but they are not listed
in order of importance -- quite the contrary:
- Increase liquidity, usually for long-term, quite illiquid holdings.
- Reduce capital costs.
- Promote honesty.
- Lower transfer costs.
- Promote trading and efficiency.
- Promote corporate disclosure.
- Attract new capital sources.
- Establish security values.
I have learned today, and in my weekend in Guangzhou, and in the meeting of the World
Economic Forum in Hong Kong, that there is a different order in terms of the importance of
these functions in the socialist development of your economy today. Let me first talk
about the last point -- to establish security values. One thing the stock market allows is
the pricing of capital with regard to the rewards and risks of investment opportunity. The
stock market gives you a transparent, open, fully-functioning option by which capital
pricing becomes immediately obvious. It is rather hard to know how to price capital
without a stock market. The more capital an economy needs, the more a stock market should
establish pricing levels for other transactions that do not necessarily take place across
the stock market.
The stock market is indeed a socialist market solution to a bureaucratic burden. The
first thing we heard referred to this morning was how to price things. Prices are
different in China because costs are different than in other parts of the world. The stock
market takes all of those pricing characteristics into account in a fully open and
disclosed fashion and says what the proper price should be for investment alternatives.
The second point is that new capital will be required in order to maintain or perhaps even
increase the 8.9% annual rate of growth which has taken place and which is expected for
the next five-year plan in the socialist economy. A mechanism to attract capital will be
to unlock the personal savings that are already very large in China and also to continue
to attract and enhance the attractiveness for foreign capital. In China, it is customary
to keep savings money in the mattress or, to a lesser extent, in bank deposits. This
source of capital -- savings -- should come out of the mattress and be employed
domestically in the industries, like mattress factories, that are advancing in the Chinese
situation.
It is clear that the stock market is a way of attracting that capital.
The very incidents in Shenzhen which seemed to cause great concern to many people in
China tell us that the demand for capital to be invested in the stock market exceeds the
supply, and is likely to be so for some time. As you know, when you have an imbalance in
supply and demand there are two things you can do. You can reduce the demand . . . that is
usually unwise in a fully-functioning economy. In the socialist market economy, I would
argue it is better to increase the supply. A stock market will attract domestic savings as
well as foreign savings. It is a different form of capital, portfolio capital rather than
project capital.
The third, and perhaps the most important point of all of these within the socialist
system is to promote honesty. Honesty is extremely important in developing confidence that
everyone will be treated fairly and with justice in accessing the investment opportunities
that are available. The stock market has transparency, usually accompanied by disclosure
of financial information: rules and regulations and openness about who is trading; who is
buying; and who is selling. The promotion of honesty is one of the key functions of stock
markets around the world. Transactions do not take place behind closed doors. Typically
they are in the open, to be seen and monitored by everyone. In my view, the stock market
will do more to promote honesty than almost anything else. (Note: Shortly after the Forum,
Chinese authorities announced the establishment of a Securities Supervisory Board (SSB) to
regulate its securities markets -- a step directed to enhancing honesty in new Chinese
markets.)
I would identify these three points, among the eight, as the most important. That
doesn't mean that I think the idea of efficiency is bad. I'm in favor of efficiency. The
stock market is an extremely efficient way of dealing with capital transactions, because
stock markets will bring buyers and sellers together in either one place or on one
computer chip. They can operate twenty-four hours a day, by machine, by satellite and with
computer link-ups from one market to another, thereby reducing destructive competition
among Shanghai, Shenzhen, Hong Kong, or wherever. All of these efficiencies can add to the
successful operation of your market. Similarly, the clearing transactions provide
guarantees that if somebody takes their money out of the mattress they will actually get
something of value, which will remain of value.
Now, presumably, the stock market is still an experiment in China. I wonder whether or
not that is so. Because if the market is progressing, all markets are progressing as
rapidly for Chinese stocks, inside or outside of China. Inside is perhaps better in terms
of Chinese influence and control rather than outside, but it seems to me the trading of
Chinese securities is well underway.
The techniques for the stock market can be old-fashioned; that is, they can operate
with people running around throwing pieces of paper at one another and shouting and
screaming as in old-fashioned stock exchanges. Or they can operate in a new, computerized
and very efficient manner. Some stock markets in the world are entirely computerized, but
if you look at them from the visitors' gallery, and I won't name which stock markets I'm
referring to, you will see that all of the people there are sitting in front of computer
terminals, engaging in computerized transactions. The only reason they need to be in one
place and come to work in that location is because it looks like a stock market. It just
feels better. But it can operate just as well in a fully computerized operation anywhere
in the world. There is a stock market like that called NASDAQ, which operates now on a
global basis.
China can benefit from the experiences of other people, recognizing that what is going
on here in the socialist development of this market economy is indeed unique.
Opportunities in China are unique, the size of China is unique, and the pace of activity
that I have seen in the last ten years is unique. And yet, many of the individual tools
that you are using and will use are very similar to those used by other people.
I just came from visiting the Guangzhou Trade Fair on Sunday morning, where I looked
around and saw a number of different products made by Chinese enterprises, many of which
look very similar to products I have seen in other places. But some were quite unique.
Similarly with stock markets. The Chinese stock markets will have some features of other
stock markets. There are problems with the stock markets, indeed, and some of those
problems perhaps occurred in Shenzhen. Some of them have occurred in the United States at
various times. The problems are worldwide, and the fact that they occur publicly is, in my
view, an advantage and not a disadvantage.
Let me finish by telling you about a personal experience I've had which I find
analogous to the Chinese stock market and its development. Several years ago, I was
reading a book written by Buckminster Fuller, entitled Synergetics. Buckminster Fuller was
a highly-distinguished engineer, mathematician, and philosopher. He was nearly ninety
years of age when he wrote the second installment of Synergetics which, of course, would
accord him special respect and distinction in China. This book is about nine hundred
pages. I was studying it very carefully, underlining many words and reading slowly, then
more slowly in order to understand the mathematical and philosophical content. He was
talking about bringing the world together into a whole rather than as separate groups of
people. I got halfway through the book and was very frustrated. Just as I was slowing
down, almost to a stop, the author said: "If you are having trouble understanding
this book, read faster and understand the general concept. Don't go more slowly, read
faster." And I found this advice may have relevance to the development of stock
markets, generally, and for China, in particular.
Referring now to the map. It is one that we use at Batterymarch in a similar form. As I
indicated, the countries of the world are sized according to their market capitalizations
-- share prices times the number of their shares -- so Japan is very large in relation to
its geographic area. Luxembourg is a tiny, tiny country, in actual fact, but is quite
large based on its market capitalization. Switzerland is also quite large on this scale,
even though one can drive from one end to the other in three hours. So, from the
standpoint of the investor, this is the way the world looks based on stock markets, not
geographic area.
What is important in terms of stock markets is how developed the stock markets are in
relation to the size of the economy. The size of the stock market should be approximately
the same as its economy, regardless of where it is in the world. It means that the United
States and Japan are approximately the same in relationship to each other because the size
of their stock markets and the size of their economies are similar. In my view, the stock
market has the greatest opportunity and can perform the greatest function in those
countries that are colored in "green," where the economies are large and the
stock markets are small. On that basis, China, Russia, Poland and Czechoslovakia are
particularly important. The others that are moderately encouraging are Australia,
Indonesia, the northern part of Africa, Brazil and Costa Rica. The stock markets in these
countries are not yet performing the function of helping to promote their economies. I
think they will in the future.
In my judgment, China has the opportunity to experience tremendous growth in its stock
markets. You can see it has a great opportunity to go forward. In the case of my country,
the United States, and certain others, such as the United Kingdom, the stock markets are
fully advanced and will not experience the same degree of absolute growth. The map
illustrates the opportunity in front of you and also the size of your task.
Dean LeBaron, Chairman
Batterymarch Financial Management
© 1996 Dean LeBaron
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