INSIGHTS | Digital brokers help retail investors go global

China’s investment market is going online, as digital brokers and other investment companies see new opportunities to help mainland investors send their money abroad. China’s huge economy and high savings rate means its investment services market could become one of the world’s largest, but options are limited for savers. One way to diversify is making investments in overseas markets like the US and Hong Kong.

Players old and new are dazzled by a potential user base of millions, but regulators remain tepid. While new regulations last fall encouraged tech and financial firms to go into mutual funds, most of the investment action is happening through brokerage services beyond mainland regulation in Hong Kong.

Bottom line: Digital asset management is a hot field, with a number of already-listed players offering financial services. But these players face real uncertainty about both US and Chinese regulation—most are domiciled overseas in an effort to avoid capital controls and limits on trading. As long as China keeps its capital markets mostly closed, the industry is likely to remain in a pretty uncertain position.

Room to grow: Mainland investors have traditionally had few places to put their money. But as China liberalizes its financial system, more people are seeking opportunities to diversify their assets through investments on global markets. Digital brokerage services are following the customers.

Executives at internationally-focused brokerage Futu estimate that there are 20 million Chinese nationals with overseas assets. By comparison, financial information outlet Shujubao reports (in Chinese) there are 158 million trading accounts in China.

• Consulting firm Oliver Wyman forecasts Chinese offshore financial assets will reach $2.1 trillion by 2022. 
• In domestic markets, Chinese stocks added over $1 trillion in value in just the first eight days of July, reflecting surging public interest in buying shares. Bloomberg dubbed investors’ strong appetite for investment vehicles a “budding equity mania.” 

The players

Brokerage startups with a global outlook are luring new customers and challenging established mainland Chinese trading firms and tech firms to expand their services, while big firms like Tencent and Ant Group are involved in advisory services such as personalized investment advice. Smaller firms lead in brokerage services, where investors can directly open accounts to buy stocks and bonds. 

Snowball Finance (Xueqiu): The New Zealand-registered service, founded in 2010, originally served as a financial news and advice platform for Chinese investors. It now offers brokerage services for US, HK, and China-A shares, discussion with other members, and more, all geared towards mainland users. 

• Snowball has over 12 million monthly active users. 
• Alibaba’s Ant Group invested $120 million into the app in 2018, and other investors include Sequoia China and Morningside Capital.

Futu: Founded in 2011 by former Tencent employee Leaf Hua Li and headquartered in Hong Kong, Futu aims to provide a “one-stop shop” for data and trading services in Hong Kong, mainland China, and US stock exchanges, boosted by investment from Tencent. It went public on the Nasdaq in March 2019, raising $90 million. According to the company’s most recent financial report, 66.7% of its trading volume is US stocks.

• Futu reported a strong second quarter with its highest ever total trading volume of HK$ 643.9 billion ($83 billion) and 303,102 total paying clients, an increase of 84% year on year.
• Futu credits its popularity to its interactive investor community: inexperienced traders can attend lessons and share ideas within the app.

Tiger Brokers: Launched in 2014, Tiger Brokers targets Chinese investors wanting in on the action in US and Hong Kong markets. Yet despite its similarity to Futu, it’s far less profitable. The company’s IPO on the Nasdaq in March 2019 raised $104 million.

• Tiger reported an additional 33,800 accounts with deposits opened in the second quarter of 2020, and holds nearly 60% of the market share for global Chinese investors in terms of US securities trading volume.
• Mainland Chinese users still make up the bulk of Tiger’s users, but international users made up 10% of the quarterly user growth, according to their Q2 earnings call.

Huatai and Zhangle Global: Huatai Securities launched a global stock trading app called Zhangle Global from Hong Kong in July, and plans to leverage its success in the mainland trading market to move overseas. 

• Zhangle Global is specifically aimed at Chinese investors living outside the mainland, according to a Reuters report. Huatai’s service for mainland users, Zhangle Fortune Path, had 9.11 million monthly active users (in Chinese) as of June 2020. 

Major tech firms aren’t directly competing as brokers. Instead, they target people already in their user base with simpler solutions like personalized investment advice and recommendations for mutual funds, a professionally managed portfolio containing the assets of multiple investors. 

Tencent tests the waters: Tencent is leveraging its ubiquitous messaging app Wechat to attract users for its new fund advisory service Yi Qi Tou, it announced last week. Yi Qi Tou isn’t a brokerage service, providing mutual fund recommendations instead. 

• Teng An Fund, Tencent’s fund distribution unit, said the service will be launched on Wechat after a trial period.  
• Tencent has also been strategically cooperating with Futu since 2018 through traffic, content, and cloud services.

What about Alibaba? So far, Alibaba’s Ant Group has invested in Snowball but not made any forays into brokerage services itself. They have launched other financial services, notably money market fund Yu’ebao in 2013 and a new advisory fund venture called Bang Ni Tou through a 2019 partnership with Vanguard. Both services are accessed through payments app Alipay, and Bang Ni Tou acquired 200,000 clients in its first 100 days. 

Enter Bytedance? Bytedance also appears to be exploring the offshore investments market with a new subsidiary called Squirrel Securities. But with a reported one epmployee, this company is clearly in early days.

Why go abroad? Exchanges in China have a much shorter history than in other countries, and are dominated by small-time retail investors. The Shanghai and Shenzhen stock exchanges opened in 1990, and Hong Kong’s many small exchanges didn’t merge into the Stock Exchange of Hong Kong until 1986. In comparison, foreign markets like those in the US have a reputation for stability and rationality. 

• More than 80% of A-share stakeholders are under age 40, according to a study by Shujubao (in Chinese). About half of all investors have little investment experience, and nearly 90% of all Chinese investors are primarily pursuing short-term gains over long-term financial planning.
• Shujubao also reports that out of the 158 million A-share accounts opened at the end of November 2019, 99% of them are retail investors that bring home less than $700 a month.
• Individual, inexperienced traders are the bulk of Chinese investors, making “share prices vulnerable to extreme swings in popular sentiment,” according to a Bloomberg article. 
• “There’s always been a tremendous demand for people in China to hold foreign assets,” Adam Lysenko, Associate Director at Rhodium Group, told TechNode. “There’s definitely an attraction to being in a market comparatively as stable, deep, and anchored by specific institutional investors as the US is.”

Regulatory hurdles for firms and investors

Cross-border brokerage: China’s brokerage industry is intensely regulated, and it’s not entirely clear if trading foreign securities is actually legal. Brokerages have avoided the issue by domiciling overseas, and Chinese regulators have let these platforms carry on so far. But with a clear focus on users in the mainland, these companies may face demands to register there.

• Neither Futu nor Tiger are licensed as a securities brokerage in China. But given the amount of mainland users on their apps, regulators might decide to consider them brokerage businesses in the future, forcing them to apply for licenses.
• Tiger’s IPO prospectus outlined their efforts to comply with their understanding of mainland Chinese law while acknowledging future risks: “We cannot assure you that the rectifications we have made will fully satisfy the relevant regulatory authorities’ requirements.”
• Meanwhile, regulators are encouraging experiments with digital mutual funds: China began issuing fund advisory licenses last October, but only a “handful of firms” will be able to raise enough money for their products, prioritizing established firms with existing funds.

Getting dollars: In order to trade foreign stock, users also have to get ahold of foreign currency. Beijing limits how much money Chinese investors can transfer out of China. If regulations tighten, they could be cut off from maintaining their foreign assets.

• China’s State Administration of Foreign Exchange (SAFE) limits conversions of RMB to foreign currencies to $50,000 per year in an effort to keep wealth within the country, and even this limited exchange needs approval. 
• Futu and Tiger Brokers don’t provide conversion services, and Futu doesn’t ask questions about whether money exchanges have been government-approved. Tiger emphasizes compliance with regulations but admits they can’t guarantee it.
• Futu’s IPO prospectus acknowledges that further currency exchange restrictions would slash their trading volume, leaving their future business with Chinese customers in the hands of the state.

Don’t worry about the trade war: Despite White House recommendations to delist unaudited Chinese firms, brokerage services and the investors they cater to aren’t discouraged about overseas exchanges yet. Unclear Chinese regulation presents far more of a risk, experts told TechNode. 

• Integration between Chinese and US markets is still on the upswing. Twenty Chinese firms went public in the US in the first half of 2020, up 17.6% from the same period last year, according to data from Snowball. 
• “Even with the heightened risk, the fact that Chinese firms continue to come and list in the US in record numbers is indicative of how attractive they consider the US,” said Lysenko. “Whether this continues is anyone’s guess.”

The Hong Kong connection: Hong Kong is still an enticing location for both firms and investors: listing there allows them access to an internationally convertible currency while avoiding both US regulation and mainland capital controls.

• “The increase in US-listed Chinese companies seeking secondary listing in Hong Kong and the surge of high-profile Hong Kong IPOs act as major tailwinds for us to further grow and engage our paying clients,” said Futu CEO Leaf during their Q2 earnings call. 

The biggest risk comes from unclear Chinese laws surrounding brokerage services. If lawmakers perceive outward flows of Chinese money as destabilizing the domestic economy, they could tighten capital controls.

Trade war pressure and a slowing domestic economy could put indirect pressure on regulators to stall any further liberalization for securities brokers. China “is not really in a strong position to feel it can safely lower those capital controls,” Lysenko said.