July 09, 2020
I love China very much, and I hope to return there many times in the years to come. But I also believe in a democratic Hong Kong and an independent Taiwan.
- Does writing that mean I now risk arrest the next time I set foot in China? I cover that question in this week's newsletter. Also, in its 1,852 words (a 7-minute read): Sovereign debt, IPOs and much more.
1 big thing: China's extraterritorial threat
All multinational companies and executives need to worry about breaking U.S. law, no matter where they're based or doing business. Now, they need to worry about Chinese law, too.
Why it matters: The projection of U.S. norms and laws around the world has been an integral (and much resented) part of America's "soft power" since 1945. As China positions itself to replace the USA as global hegemon, expect it to become increasingly assertive along similar lines.
Background: China's leaders believe they are in a "generational fight" to make China the "world's only superpower by any means necessary." That's the verdict of FBI director Christopher Wray, who used a recent speech to outline various ways in which China seeks to influence and control American companies and elected officials.
Driving the news: As Axios' Bethany Allen-Ebrahimian has reported, the draconian security law that Beijing forced upon Hong Kong last week contains an article making it illegal for anyone in the world to promote democratic reform for Hong Kong.
- The law applies to everyone outside of Hong Kong. That includes you, dear reader, and it very much includes every individual seeking to do business in China.
- You won't get arrested so long as you remain outside China and Hong Kong. But for many businesses, that's not an option.
The big picture: There's an almost endless list of foreigners who have fallen afoul of U.S. laws for actions they took outside U.S. borders.
- Those charged include many banks, including UBS (facilitating tax evasion) and Barclays (Libor manipulation). HSBC, Lloyd's, Credit Suisse, Barclays, ING, Standard Chartered, Royal Bank of Scotland, Commerzbank, Crédit Agricole, and BNP Paribas have all been prosecuted for money laundering, while Deutsche Bank has faced prosecution for pretty much all of the above.
- Any crime committed using dollars touches the U.S. somehow, which is how it becomes illegal for someone in France to send dollars to Sudan, Iran or Cuba.
- All of those banks are active in China, too, but the financial services industry is clearly not the target of the new law. Something like a tweet from the manager of a basketball team, on the other hand, would clearly fall under its scope.
I described U.S. prosecutions in 2014 as "unapologetic American exceptionalism, manifesting as extraterritorial powermongering."
- Even then, China was exerting a chilling effect on corporate speech well outside its borders. (For a prime example, look to how your company characterizes the status of Taiwan.)
- Today, Chinese exceptionalism is manifesting itself in extraterritorial threats.
What they're saying: "Washington is increasingly abusive of its so-called exorbitant privilege," writes the South China Morning Post's Alex Lo in an opinion piece. "Beijing must be thinking: if the U.S. can do it on such an egregious scale, why can't we?"
The bottom line: It's sometimes impossible to obey both domestic and U.S. law. Credit Suisse, for instance, was found guilty in the U.S. of failing to hand over the names of its American private-banking clients — despite the fact that it would have been clearly illegal, under Swiss law, for it to do such a thing.
- Trying to simultaneously obey domestic, U.S., and Chinese law is going to be trickier still.
2. Sovereign debt restructuring grows up
Why it matters: Both countries are repeat players at this game, and it would be very easy for 2020 to resemble previous acrimonious fights. Wonderfully, however, it looks like that's not going to happen this time around.
Background: I've long had something of an obsession with sovereign debt restructuring, where countries default on their creditors and replace their bonds with new instruments that generally carry concessionary interest rates. I love the larger-than-life characters, the high dudgeon on all sides, and even the glorious vocabulary of it — champerty and pari passu and contumaciousness.
- By rights, then, I should be deeply immersed in the recondite details of the latest debt negotiations in Argentina and Ecuador. What kind of mischief is Argentina getting up to with its collective action clauses? Will Ecuador's finance minister manage to pull off a deal before getting impeached?
- The catch: This time, such details don't really matter. The bondholders are mature long-term investors rather than avaricious vulture funds, and they're keeping their eye on the bigger prize, which is the continued health of the asset class more broadly.
The big picture: Now is a surprisingly good time for Argentina and Ecuador to restructure their debts, for three reasons.
- The case for a restructuring is crystal clear. Unable to print the hard currency they need to service their debts and pay for much-needed medical and other imports, emerging markets around the world are spiraling into a global recession they simply can't afford. The creditor community understands this. If shareholders of S&P 500 companies aren't worried about this year's earnings, then sovereign bondholders shouldn't care too much about the next few coupon payments.
- Thanks to swift action by the IMF and global central banks, sovereign bonds are trading at very healthy levels. If bondholders come to a deal, the new bonds they end up with will trade at low yields and be worth a lot more than any kind of paper in default.
- More defaults are coming, and a pair of constructive early precedents in Argentina and Ecuador will be very helpful in terms of providing guidelines for working out the debts of other countries. Bondholders will "get a deal done, set the right precedents, negotiate as a group and stand together, because there's more of this stuff coming," one bond-restructuring veteran tells me. "Starting on a bad path would not make sense."
The bottom line: Comity and cooperation are rarely hallmarks of sovereign debt restructuring. But the coronavirus seems to have conjured them onto center stage.
3. China to the rescue?
China has a unique opportunity to wield its economic clout at a time of global fiscal chaos.
Why it matters: No one needs China's help more than the emerging-market countries in Africa and Latin America that have been devastated by the coronavirus.
Background: China's decision to tear up the Sino-British Joint Declaration and Hong Kong's Basic Law comes from a position of strength. Its economy is growing again and its stock market is surging. As Bloomberg's John Authers writes, "It looks like the Chinese economic machine might be able to drive one more economic cycle."
Flashback: The Latin American debt crisis of the 1980s was resolved by means of the Brady Plan. The brainchild of U.S. Treasury officials, the plan allowed sovereign creditors to exchange their defaulted loans for highly-liquid new bonds with built-in guarantees from the U.S. government.
- The plan gave U.S. officials an unprecedented degree of access and respect in finance ministries across the continent, and ended up costing the U.S. almost nothing, since the vast majority of guarantees were never called upon.
Be smart: China is already a major creditor of many countries across Africa and Latin America — a big enough player that it has no choice but to play a central role in any upcoming debt restructurings.
- One option: To make a virtue out of necessity and take the reins, much as Treasury Secretary Nicholas Brady did in 1989.
- A Chinese Brady Plan would look very different from the U.S. version. But the geopolitical motivation would be the same — to consolidate the hegemon's sphere of influence.
The catch: Such a plan would require quite a lot of imagination, and it's far from clear how many Chinese officials are empowered to even consider such a thing.
- In Western countries, a steady stream of lawyers and investment bankers would be making their way to the finance ministry and various state-owned banks, bearing beautifully-formatted PowerPoint proposals and offering their high-priced services.
- If that's happening in China, it's happening very, very quietly.
Bonus: The sovereign debt rebound
Emerging market sovereign debt is trading near its all-time highs, after a nasty downward lurch in March. To look at it, you'd think there was no longer any financial distress at all.
4. The IPO bubble
This is more than just a stock market rebound. The stock market is so frothy now that it's driving a whole slew of corporate actions that otherwise might well not have happened.
Why it matters: The IPO market, in particular, is white-hot. Lemonade, for example, a small home-insurance company, originally indicated that it would go public at between $23 and $26 per share. In the end it priced at $29 — and traded above $70 on its opening day.
- Palantir, the secretive intelligence tech company that has delayed an IPO for years, cannot resist any longer — it filed to go public this week.
By the numbers: There were 28 IPOs in June, which raised $13.5 billion in total. On average second-quarter IPOs rose 38% on their first day of trading. And the Renaissance IPO Index rose an astonishing 54% over the course of the quarter.
- Blank-check companies, or SPACs, also had a record quarter. (They're the companies that raise a lot of money by going public, without any idea of what industry they're in; later, they'll use the money to buy a company.) Twenty-four SPACs raised $7.2 billion in the second quarter, with Bill Ackman's $3 billion Pershing Square Tontine Holdings yet to come.
- Eight previously-existing SPACs became proper companies, including Draft Kings (now worth $11 billion) and Nikola, an early-stage electric-truck company that the stock market values at $20 billion.
Uber didn't IPO again, but it did manage to issue 84 million new shares in order to acquire rival money-losing food-delivery service Postmates — and was rewarded for doing so by seeing its share price go up. That's despite the fact that key terms of the deal still haven't been disclosed.
The bottom line: Even Softbank, the butt of a million jokes and the controlling shareholder in the disaster that is WeWork, is trading at its highest level in 20 years. With valuations like these, expect more companies to start taking advantage of their share price to raise new equity or fund ambitious takeover bids.
5. Coming up: Chinese growth data
China's second quarter GDP is out Wednesday night, writes Axios' Courtenay Brown.
Why it matters: The figures will show whether — and by how much — China's economic activity bounced back. It was the first country to deal with the coronavirus pandemic, and in late March started loosening its lockdown measures. (Some were partially reimposed in June.)
By the numbers: Analysts estimate China's economy grew 3% year-over-year, per FactSet, after shrinking 6.8% in Q1. The China Beige Book, on the other hand, a survey of 3,300 Chinese businesses, predicts the economy contracted again in Q2.
- Of note: If analysts' estimates are right, the rebound would still be a marked slowdown from China’s pre-pandemic growth. China's economy grew 6% year-over-year in the fourth quarter of last year.
6. Building of the week: 20 Front St., Port Jervis, N.Y.
The fourth home for the National Bank of Port Jervis was built in 1926, after the bank had outgrown previous buildings erected in 1852, 1865, and 1914.
- Its 8-foot-high clock chimed the hours and quarter hours, and could be heard "for several blocks," according to a contemporary news report. "In view of the fact that Port Jervis has no chimes," the paper said, "the officers and directors of the National Bank of Port Jervis are to be commended for their enterprise and forethought in providing them."
- An early industrial hub, Port Jervis lies north of the Delaware Water Gap, at the confluence of New York, New Jersey and Pennsylvania. The bank committed itself "to use our funds in the uplift of any and all parts of our community, irrespective of race, religion, or nationality."
- The bank was later converted to a nightclub, and is now for sale, asking $535,000.