Alarm bells as Chinese retail investors drawn to high-risk private equity funds
Retail investors are increasingly buying into private equity (PE) and venture capital funds even as institutional investors are retreating from new tech companies with exceptionally high valuations, in a trend analysts say is fraught with danger.
“I am afraid institutional investors are shying away from financing plans valuing companies unreasonably high. So some financial intermediaries have been slicing up pricy investment options, which used to be open only to institutions, to make them affordable for retail investors,” said Wang Yansong, managing director of investment bank and advisory firm China First Capital.
“But retail investors do not have the risk pricing power. Many are not aware of the essence of the product they are buying into and are lured by the promise of high returns. They will have no bargaining power in the event of their investment getting stuck,” she added.
A term sheet for convertible bonds of LeSEE, an electric sedan unit under China’s internet conglomerate LeEco, circulating online is a case in point. With a minimum investment of 1 million yuan, retail investors can purchase the bond that carries a 12 per cent coupon rate. Investors can convert the bonds into equities at a 20 per cent discount when LeSEE carries out the next round of fundraising. If LeSEE fails to do another fundraising round in 18 months, investors can ask for their money back.
“This shows smart money does not like LeSEE. The company was forced to turn to retail investors, who are less experienced and more prone to believing the company’s rosy projections,” said a media analyst based in Shenzhen who did not want to be identified.
In a written reply to the South China Morning Post, LeSEE said it has never sold bonds to retail investors and also prohibits institutions from selling them to retail investors. It was looking into the matter, it said.
But two investment bank sources said they have been seeing similar financing plans doing the rounds on Chinese markets this year.
Jfz.com, an online asset management platform with a Chinese name that translates as “golden axe”, is selling financing plans that give access to almost all China-based companies that are yet to list.
A salesman surnamed Hu at the platform said Jfz had just finished raising funds to finance a part of the buyback of Qihoo 360 Tech, the Chinese internet tech giant formerly listed in New York. The product promised returns of almost 500 per cent in four years, after Qihoo gets re-listed in China, even though its listing is not set in stone.
The China Securities Regulatory Commission (CSRC) has tightened its scrutiny of the companies de-listing abroad and re-listing in China to curb speculation and cross-border arbitrage. It has also slowed down initial public offering (IPO) approvals to stabilise the market, which has further restricted the fundraising channels for companies.
Retail investors could easily lose money or at least get stuck with their investment if a company fails to list, raise more money, or simply proves to be a dud, said Wang. It is worse than losing money betting on the secondary market because the minimum investment commitment is much bigger in these kinds of investment, she added.
According to an industry guideline issued by the CSRC in 2014, individual investments into a single PE fund should be above 1 million yuan. An individual should own financial assets worth above 3 million yuan or have an annual income of more than 500,000 yuan in the last three years to be eligible to invest in PE.