The recent regulatory actions taken by China against domestic Internet companies and the education and training industry have caused severe shocks in Chinese stocks. Just as everyone is thinking about the depth and breadth of this round of regulatory action, yesterday (August 3) an article entitled "spiritual opium has grown into a hundreds of billions of industries", aimed at China's game industry, once again caused a huge shock in the market.

Although the article was subsequently deleted and regulatory sources told the South China Morning Post that the article did not represent China's official attitude, US game stocks were sold off by panicked investors.

Tencent (TCEHY) fell 10 per cent at one point in US stock trading on August 3, narrowing its closing decline to 7 per cent, NetEase, Inc (NTES) closed down 11 per cent, Bilibili Inc. (BILI) closed down 7 per cent and HUYA Inc. (HUYA) closed down 8 per cent.

Dragged down by the decline of the plate, American game companies Activision Blizzard (ATVI), EA (EA) and Take-Two Interactive Software (TTWO) also closed down about 3% and 7% on the day.

As of Aug. 3, Invesco Golden Dragon (PGJ), an exchange-traded fund that mainly invests in US-listed stocks, has fallen 44 per cent from the year's high reached in mid-February 2021, while iShares MSCI China (MCHI), which invests in US-listed stocks and domestic listed companies, has fallen 27 per cent since hitting a peak in mid-February.

Despite recent reports of star funds such as ARK liquidating Chinese companies, the data show a counterintuitive fact that institutional money is still buying Chinese shares at a time when retail investors are selling.

However, some analysts believe that capital inflows may only be a short-term bottom, and Wall Street investors are still considering the medium-and long-term investment value of Chinese companies in the face of regulatory risks that have not yet disappeared.

Barron Weekly pointed out that recent events do not constitute a reason to give up investing in China altogether. Investors should now be more selective and look for safer areas in the Chinese market.

The market capitalization of Chinese stocks lost more than 400 billion US dollars in July.

In addition to recent regulatory problems, new US measures have also put pressure on Chinese stocks. At the end of July, the Securities and Exchange Commission (SEC) required Chinese companies listed in the United States in the future to further strengthen information disclosure and disclose information about related risks.

In response to the latest request of the SEC, the CSRC said that the regulatory authorities of the two countries should continue to uphold the spirit of mutual respect and win-win cooperation, strengthen communication on the regulatory issues of US-listed stocks, find proper solutions, and create a good policy expectation and institutional environment for the market.

The CSRC also stressed that China's basic state policy of promoting reform and opening up is unswerving, and the intensity of financial opening up to the outside world will continue to increase.

The data from FactSet showAs of July 30, the market capitalization of Chinese stocks lost a total of US $407 billion in July.It is more than twice the market capitalization loss of US-listed stocks when the US stock market plummeted at the beginning of the outbreak in March 2020.

From July 1 to 30, TAL Education Group (TAL) fell 74 per cent, New Oriental Education & Technology Group (EDU) fell 72 per cent, DiDi Global Inc. (DIDI) fell 37 per cent, Tencent (TCEHY) fell 18 per cent, BABA (BABA) fell 12 per cent and JD.com (JD) fell 8 per cent.

KraneShares CSI China Internet ETF (KWEB), which invests in a basket of Chinese internet companies, fell more than 27 per cent in July, making it one of the worst-performing international equity funds in July, according to Morningstar Direct.Compared with its February peak, the decline is almost 50%. WisdomTree China ex-State-Owned Enterprises ETF in companies affected by recent regulatory changes, such as Tencent, BABA, Meituan and JD.com, fell more than 14 per cent in the month. In particular, 120 of the 160 Chinese funds tracked by Morningstar have fallen by more than 10 per cent in the period since the introduction of regulatory policies on the education and training industry on July 24.

Wall Street fund managers believe that regulatory pressures will continue to cause volatility in the Chinese market over the next six to 12 months, according to Barron Weekly.

Retail investors are selling and institutions are buying. Why?

Barron Weekly notes that while the next regulatory risks are hard to predict, trading data show that recent volatility has not triggered large capital outflows and that investors have been buying bargains.

According to EPFR Global, a fund research firm,Despite the general decline in Chinese stocks in the seven trading days to July 28, global investors have invested 3.6 billion dollars in funds that mainly invest in Chinese stocks.

However, an in-depth analysis of the data shows that there is a significant difference in sentiment between institutions and retail investors.

Barron Weekly pointed out that institutional investors inside and outside China took advantage of the volatility to buy more Chinese stocks on the bargain, adding nearly $3.9 billion worth of Chinese equity funds to their portfolios. It was the strongest weekly net inflow since February.

By contrast, retail investors sold $266 million worth of Chinese equity funds over the same period, the largest weekly outflow so far in 2021.

Cameron Cameron Brandt, head of EPFR research, said: "retail investors are more vulnerable to scare and their panic magnifies when share prices fall, and most institutional investors see it as a buying opportunity. "

However, the retail sell-off is not as severe as the 2015 Chinese stock market crash. Brandt said the situation was that all retail investors were evacuated at the same time.

Brandt said in an interview with Barron Weekly: "China is now doing a better job of curbing market volatility than in the past, and now whenever there are signs of a correction in the market after several such fluctuations, or when retail investors panic selling, some people tend to see this as an opportunity. "

However, some analysts believe that the inflow of funds into Chinese equity funds is not necessarily a bullish signal.

Citigroup analyst Scott Scott Chronert pointed out in a research paper last weekThe influx of some investors may be for the purpose of short-term trading rather than long-term holdings.

For example, ETF, which includes Chinese high-growth stocks, could be used by people who trade options as a hedging tool to provide downside protection in the event of a further regulatory crackdown.

Some investors may buy such funds to lend them to short sellers or to buyers of put options. Crohter said: "Various Chinese ETF provide investors with a channel to trade recent volatility.。」

Tai Hui, chief Asian market strategist at JPMorgan Chase & Co Asset Management (JPMorgan Asset Management), saidInternational investors are likely to shift more China exposure from the US stock market to Hong Kong and mainland China, where semiconductor, solar and biotechnology-related stocks have been rising. These areas are the focus of the Chinese government's industrial policy.

The CSI 300 index, made up of blue chips on the Shanghai and Shenzhen stock markets, fell nearly 8 per cent in July, higher than the decline seen during the COVID-19 outbreak in early 2020.

The Financial Times calculated based on Bloomberg dataInternational investors who trade mainland stocks through the Shanghai-Hong Kong Stock Connect and the Shenzhen-Hong Kong Stock Connect have been net buyers of Chinese stocks in July.。

Every time these international investors withdraw $1 from the Shanghai stock market, they will invest more than $3 in the Shenzhen stock market.Pushed up the holdings of international investors in mainland-listed companies by 10.8 billion yuan ($1.7 billion).。

The technology-heavy Shenzhen gem (ChiNext) has been one of the best-performing major stock indices in China over the past month, falling just 1 per cent during the market turmoil.

What did funds that escaped the regulatory storm in China buy?

There are some funds that have previously been looking for investment opportunities outside the leading Chinese companies have basically escaped the impact of the current regulatory storm.

Compared with large overseas-listed companies, China's locally listed companies, especially smaller ones, have performed relatively well recently.

After a poor performance over the past five yearsXtrackers Harvest CSI 500 China A-Shares Small Cap (ASHS), which tracks 500 small and medium-sized stocks in Shanghai and Shenzhen, has outperformed MSCI China Index this year.Global X MSCI China Energy ETF (CHIE), Global X MSCI China Utilities ETF (CHIU)和Global X MSCI China Materials ETF (CHIM)Index funds such as those that mainly invest in China's "old economy" sector have not been affected by the recent sell-off.

The low valuations of the three ETF-invested sectors mean they are likely to be safer options in the next year or two, especially as the global economy recovers from the epidemic and international demand for Chinese goods rebounds.

The size of 107 million dollarsOberweis China Opportunities (OBCHX)This year it has reduced its holdings of large Chinese technology stocks such as BABA and Tencent, while increasing its holdings of companies that are expected to be the next generation winners.

Jim Oberweis, portfolio manager of the fund, said: "We are looking for companies with high growth rates in emerging markets, or companies that are innovative and capable of grabbing market share from existing market participants. "

Obervis is optimistic about China Semiconductor companies.Quanzhi Technology (300458.SZ)And sportswear manufacturersLi Ning Co. Ltd. (2331.HK)He believes that the industries in which these companies are located are unlikely to be targeted by regulators.

Among the funds that invest in Chinese small-cap stocks, 434 million US dollarsMatthews China Small Companies (MCSMX)The average annual return over the past five years is 27%, but the price-to-earnings ratio is still only 14 times earnings, there is still a lot of room to rise.

Large technology stocks are already cheap enough.

However, the recent sell-off in China's large technology stocks has also opened up opportunities for some investors and even attracted some value funds.

BABA's price-to-earnings ratio, for example, has fallen to about 18 times expected 2022 earnings, just 1/3 of that of its US counterpart Amazon.Com Inc.

BABA reported revenue of 205.7 billion yuan ($31.8 billion) for the quarter ended June 30, 2021, below the nearly 251 billion yuan expected by analysts surveyed by FactSet.

However, BABA's adjusted Ebitda was 48.6 billion yuan, down 5% from the same period last year, but higher than Wall Street's estimate of 46.7 billion yuan. Adjusted Ebitda profit margins also exceeded expectations, reaching 24%. BABA also plans to increase the size of share buybacks by 50 per cent, from $10 billion to $15 billion, the biggest increase in the company's history.

However, due to the slowdown in income growth and the recent regulatory storm, BABA ADR closed down 1.4% on the 3rd.

"although the overall regulatory environment is still expected to tighten this year, the recent fall in share prices provides a good entry point for long-term investors," Nomura analysts Jialong Shi and Thomas Shen said in a research report on July 29.China's Internet industry is flexible and adaptable enough to weather the current regulatory storm.。」

Edelweiss MF of India's largest mutual fund linked to Chinese assets agrees that short-term volatility opens up opportunities for long-term valuations. "investors with idle funds should invest more in China and further establish fund positions," the fund management company said. "

The reason given by Edelweiss MF is "Punishing China's domestic leading enterprises is not in China's interests. China will not over-punish domestic science and technology companies without distinction.What the government wants is to create a fair, well-functioning and flexible industry competitive environment to ensure that future innovators have room to flourish. "

Overall, the fund saidFund managers believe that China's regulatory environment is not as opaque as some commentators suggest, and that recent regulatory actions on the Internet industry are not particularly different from similar actions in the West.

Edelweiss MF also said investors should distinguish between different regulatory focus areas more carefully to find winners and losers. Many American investors are still optimistic about China's long-term prospects and believe that China's economic growth should not be missed.

Some of these investors believe that China's economy is expected to overtake the United States to become the world's largest economy in the current decade. Many on Wall Street also believe that China is closely linked to global supply chains and financial markets and cannot be ignored.