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Excessive valuations

(China Daily)
Updated: 2009-10-31 07:27

The tremendous enthusiasm that investors showed when trading of the 28 companies listed on China's Nasdaq-style start-up board debuted yesterday is a public endorsement to the government's effort to build a multi-tier capital market system.

The event, a milestone in the nation's capital market reform road, means a lot for widening investment channels, stimulating public enthusiasm for entrepreneurship and boosting domestic venture capital and private equity investment.

However, if the ChiNext market is to serve the long-term interests of both Chinese investors and small companies, the market watchdog must take more aggressive measures to address the problem of excessive valuation, which usually results in drastic market fluctuation.

With tens of trillions of yuan hoarded in their savings accounts, Chinese citizens, many of whom are retail investors, obviously need other investment avenues than stocks, bonds and insurance products.

By providing more alternatives to diversify their investments, the start-up board certainly has come as a boon to Chinese investors.

More important, the new board has opened up a badly needed financing window for the country's numerous small companies.

Small as they are, China's innovative companies and growth enterprises have constituted a key force of small and medium enterprises (SMEs) that have contributed to most of the country's job creation and economic growth.

But financing for these SMEs has long been inadequate to support their growth, chiefly due to structural problems with China's financial institutions and markets.

The dominance of big state banks in the banking sector has made it difficult for small businesses to obtain bank loans, and a high listing threshold has prevented these SMEs from raising funds on the domestic stock market.

The new market can bring an end to that situation if it grows smoothly and rapidly. Yet, the very high valuation of new stocks has already stood out as one of the chief hurdles ChiNext has to face now.

Special Coverage: Launch of Growth Enterprise Board Related readings:  Shenzhen GEM debuts, with 28 firms  Date set for GEM-listed firms  GEM set to usher in 3rd batch of IPOs  Investors fly as ChiNext gets off to busy start

Compared with the average price-earnings ratio of Shenzhen-listed shares, which is 39 times, and that of stocks on the main Shanghai Stock Exchange, which is 27, the average 56 times last year's earnings that the 28 new stocks set upon their flotation in September is disturbingly high.

Still, despite the regulator's warning against irrational trading, the prices of all new stocks almost doubled yesterday.

It is true that, with fewer listing requirements than the nation's two main boards, the ChiNext market can offer riskier but potentially more profitable investment opportunities.

But investor enthusiasm can rapidly cool if excessive valuations lead to huge losses later.

For a sound and sustainable development of the new market, regulators should not hesitate to impose more stringent rules on trading, information disclosure and de-listing.