Ant Group – Master and commander pt. II

Life gets more real for online finance in China.

• Changes to the banking rules mean that the nimble online lending sector will become much more capital intensive which will incentivise the lending platforms to be more risk-averse when it comes to making loans.
• Online lending platforms are now being forced to have much more skin in the lending game by providing at least 30% of the funding for the loans that they offer.
• Typically, the online platforms sell and administer the loans but it is the banking sector that takes the credit risk.
• With this change, the online lending platforms will now look much more like banks which have two main effects.
  • First, risk-averse: it will incentivise the lending platforms to offer loans much more carefully as at least 30% of the loss will be borne by them should the borrower default.
  • Second, the banking sector: This move makes the online lending platforms much more like banks and will give the lumbering banking sector more time to adapt to online lending.
• This comes as a further problem for Ant Group which is already feeling the regulatory heat following its founder’s ill-advised comments at a conference some months ago (see here).
• Effectively, Ant Group is being forced to become a bank rather than a nimble online platform meaning that when it goes public or next raised capital, its valuation should include a comparison to banks as well as technology companies.
• This is devastating for the IPO which almost got done at a mooted valuation of $300bn but I suspect will now be done at a small fraction of that.
• For example, the Bank of China which is one of the major Chinese banks has a valuation of around $100bn and if this is used as a benchmark for Ant Group, then the IPO will be much less interesting for all concerned.
• This regulation is also likely to hit Tencent which has substantially expanded its financial services offerings through the WeChat ecosystem and are now a meaningful part of its revenues.
• Consequently, the outlook for the further rapid expansion of digital financial services has taken a meaningful hit in China because the costs of failure for the online lenders have just increased in leaps and bounds.
• Both Alibaba and Tencent have corrected slightly on this news as it is merely a confirmation of that which was already well known.
• That being said, I think that there is still an opportunity for Alibaba which remains 20% below its peak compared to Tencent which is 7% below its all-time high.
• Furthermore, I think that the fundamental outlook for Alibaba remains better because of the acceleration of the move to online purchasing caused by the pandemic and Alibaba’s undisputed dominance in this area.
• Finally, I don’t think that the Chinese government actually wants to put Alibaba out of business but merely to remind Jack Ma who is really in charge in China.
• The net result is that Alibaba is likely to receive a fine and a slap on the wrist rather than a large, forced restructuring.
• I am also more positive about the Chinese economy in the short-term as it has managed to escape much of the devastation wrought by the pandemic which is likely to hold everyone else back for a while.
• Hence, I want to have some exposure to China and have so far done this through Alibaba and China Mobile.
• I have owned Alibaba and China Mobile and am happy to hold on for another 20% or so.