Chinese ecommerce battle waged in ADRs

Ahead of possible incorporation into the MSCI's emerging market indices, mainland Chinese firms are being increasingly short sold through ETFs as well as through US listed ADRs.

• Over $10bn worth of Chinese ADRs currently sold short
• Excluding Alibaba, value sold short of ADRs has increased over 100% since July 2015
• Short sellers seen congregating around Chinese e-commerce names

Equities draw in MSCI, short sellers

The American Depository Receipt (ADR) of Alibaba backed social network, Momo, has more than half its shares sold short revealing the current ecommerce battle being waged in China. As China's markets stumbles, insatiable local demand for stocks looks set to be joined by global indexation.

A decision by MSCI is expected on June 14 on whether or not to include mainland listed Chinese equities in their emerging market indices. If included, the move should add some support to Chinese equities with global funds tracking the indices, obliged to pick up exposure.

The additional buying demand would be welcomed as China's economy continues to stall and corporate profits dwindle, albeit at a slowing rate.

Steep job losses were reported in May with weaker export levels impacting the manufacturing sector which has recorded 15 months of continued decline. However, according to Markit PMI data there are signs that these trends may be bottoming out. The average PMI reading in the past three months has been the highest seen since April 2015.

Short sellers, who could be caught off guard by any rebound in markets, have continued to short available Chinese equities.

The most short sold Chinese ADR, with more than half of its free float out on loan currently is Momo. The Alibaba backed social network sees its cost to borrow remain high, near 3%. The stock has seen some violent swings in the past year and is down by over a quarter.

Ecommerce retailers like JD.com and 58.com feature among the most short sold ADRs by value on loan and it seems that there are numerous online battles being waged in China.

In March, Alibaba's free float on loan reached new highs of above 11%. With just under 10% of free float on loan currently shares have moderated 15% lower in the past 12 months.

Shorts, Chinese make good use of ADRS

Short sellers, limited with avenues to short Chinese mainland shares have increasingly used ETFs to gain exposure.

There has also been a marked increase in the use of US listed ADRs to short specific Chinese firms. Value on loan of Chinese ADRs has increased to over $10bn, $4.2bn excluding Alibaba, rising some 117% since July 2015.

Chinese ADRs have lost some of their shine as emerging markets sold off but this has seen Chinese firms take advantage of discounts to ADR prices in US markets.

Leveraging local demand for stocks (even with the recent pull back in prices) Chinese companies have been successfully buying out ADR listings, well below IPO pricing levels, with a reported 38 bought out in 2015.

The ability to exploit ADR listing rules at relative bargain prices enhance capital raising efforts by Chinese firms and this trend would probably be bolstered by the MSCI indices decision outcome.

Ecommerce shorts in China

Excluding the recently listed Alibaba ADR, the top ten largest Chinese ADR short positions by value on loan are dominated by smaller e-commerce businesses. While titans by virtue of market size (and market share) the likes of Alibaba and Tencent are not being targeted to the extent of their mostly smaller peers.

The second highest ADR in terms of value on loan currently is Crtrip with $870m on loan. Recently merged with competitor Qunar forming the biggest online travel group, Crtrip has seen short interest climb to 27% of freely available shares sold short.

Both firms stock surged post news of merger attracting higher levels of short interest. However, Qunar looks to have delivered the returns despite attracting less shorts with 8% of free float out on loan. Ctrip is up 23% over the past 6 months, while Qunar has fallen by a third.

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This article was published by S&P Global Market Intelligence and not by S&P Global Ratings, which is a separately managed division of S&P Global.