When the House Financial Services Subcommittee on Capital Markets met on Tuesday for a hearing on Chinese companies listing on U.S. exchanges, some of the most knowledgeable witnesses abruptly canceled their appearances, Rep. Brad Sherman said in his opening statement.
“Their decision to pull out of this hearing speaks loudly to China’s strong power over politics and economics here in the U.S.,” the California Democrat said during the hearing, entitled “Taking Stock of ‘China, Inc.’: Examining Risks to Investors and the U.S. Posed by Foreign Issuers in U.S. Markets.”
Sherman added that he wasn’t going to mention names, saying, “I’m not here to end careers on Wall Street.”
It’s precisely such people who are enabling “fraud on a stunning scale” by Chinese issuers, according to a letter by Carson Block, Muddy Waters CEO, which was addressed to subcommittee chair Sherman and ranking member Bill Huizenga of Texas ahead of the hearing.
“The government of China has co-opted much of the U.S. financial services industry — from the exchanges to the asset managers, investment banks and index providers,” wrote Block, a short-seller who is one of the most vociferous critics of Chinese companies that he sees as frauds that have been perpetrated on U.S. investors with little consequence for the scofflaws.
Block thinks it’s all part of a larger China’s strategy with the U.S. “I firmly believe that it is also official policy of the government of China to abuse the capital markets to facilitate the trade practices that are deleterious to the American economy,” he wrote.
“The corrosive nature of China listings is even more evident when looking at the state of market participants,” he noted. “The New York Stock Exchange and NASDAQ continue to actively court listings from China despite the rampant fraud and our inability to enforce against these companies. While the exchanges did actively enforce their listing rules and standards against China companies ten years ago, today their willful ignorance makes a mockery of the notion of self-regulation.”
The asset management industry is no better, he claimed, saying it is “thoroughly compromised by China money. It is well documented that China pressured MSCI Inc. into increasing the weighting of China stocks in its indices, which increased the weighting to China for over $14 trillion of funds. BlackRock in July of this year advocated for viewing China as its own asset class and upped its weighting of China government bonds and equities. But just weeks earlier, BlackRock had received the first license to operate a wholly foreign-owned onshore mutual fund company.”
He called those examples “a sampling of the extent to which China has co-opted the major institutions of our financial system.”
Last year, after Block helped expose an accounting scandal at China’s Luckin Coffee, Congress in a rare bipartisan move passed a law that would eventually require the delisting of Chinese companies whose auditors have not been allowed to be inspected by the Public Company Accounting Oversight Board, a U.S. regulator.
This summer, Block told Institutional Investor that he thought China’s crackdown on companies listed in the U.S. was a warning for them to get out of the country before getting kicked out as a result of that law.
Now, however, he thinks that law is likely to be worthless. Even if the Public Company Accounting Oversight Board, a U.S. regulator, were granted the right to inspect Chinese issuers, as the new law requires, he wrote in the letter that “there is no reason to believe that such inspections would be free of CCP [China Communist Party] manipulation and interference. In other words, I see little assurance to be gained through obtaining the long-awaited access to these inspections. “
In 2020 China codified into law “provisions that expressly prohibit China-based issuers from cooperating with investigations by foreign regulations,” he added.
The fact that American companies have to compete with these Chinese companies for capital “surely contributes to the race to the bottom mentality” in today’s markets, Block said. His solution is removing China-focused issuers from U.S. markets altogether, which he said would be a “win for the rule of law in our markets.”
“China has sought to exploit what it perceives as weaknesses in its strategic competitors’ systems,” he wrote. “So long as the Communist Party governs China, China will never be what we want it to be.”
Block wasn’t at the hearing, but his letter was introduced into the record. Rep. Sherman also gave him a shoutout.
“People wonder if there is a benefit to short selling,” Sherman mused, noting that “there is one” in Muddy Waters’ focus on Luckin Coffee. Rep. Sherman mistakenly said that Muddy Waters “discovered the problem” at Luckin, while the research was actually done by a Chinese hedge fund and given to Block, whose firm replicated and verified it. But, as Sherman accurately noted, it was Muddy Waters that brought the fraud to public attention, leading to the new legislation.