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May 01

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Avoid Chinese stocks until this market is better regulated

Burton Malkiel is an American economic writer best known for his book A Random Walk Down Wall Street (now in its 10th edition). He is a leading proponent of the efficient market hypothesis, which contends that prices of publicly traded assets reflect all publicly available information, and thus, little value can be added through individual stock selections.

On April 23, Professor Malkiel spoke at the ICMA annual conference. His comments included a recommendation that Chinese investments make up one’s portfolio to at least the same extent that China comprises the world economy. His comments included:

Most people, I believe, are underexposed to China … I really do think you should ask yourself, just without making purchasing power adjustments, China is 9% to 10% of the world’s GDP. Do you really want your portfolios to be underexposed to the fastest growing economy in the world?”

I would agree with Malkiel’s recommendations if the Chinese markets provided transparent and reliable information about their business and financial results. Unfortunately, they do not. Until the Chinese provide information that is roughly equivalent to what that the regulated markets in Europe and the U.S., they should not share the stage equally with alternative investments from these other regions.

For example, this article summarizes the huge fraud in Chinese stocks. Similarly, China continues to prevent inspection of its auditors by regulators from other countries, including the U.S.

This article addresses the recent U.S. JOBS Act, and the impact of having reliable financial information on the cost of capital. China-based public companies face the same problem. Until this changes, it is best to avoid the significant opportunity that Professor Malkiel highlights, simply because the Chinese have not provided a transparent environment for investors to analyze (and then rely on) reliable information.

About the author

David Nolte

I am a founding principal of Fulcrum Inquiry, an accounting and economic consulting firm that performs damage analysis for commercial litigation, forensic accountings, financial investigations, and business valuations. I am a Certified Public Accountant (CPA) and an Accredited Senior Appraiser (ASA), as well as having other professional credentials. I regularly serve as an expert witness involving damages measurement. My litigation-oriented resume is on Fulcrum's website.

Permanent link to this article: http://betweenthenumbers.net/2012/05/avoid-chinese-stocks-until-this-market-is-better-regulated/

1 comment

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