Short selling Chinese companies does work sometimes. Even in Hong Kong, where a stack of controlling shareholders means there's less stock to borrow and equities have been on a tear.
Just stick to firms that lack powerful allies in opaque industries.
Take China Huishan Dairy Holdings Co., which is preparing for liquidation after discovering its net liabilities "could have been" almost $1.6 billion. Carson Block's Muddy Waters Capital LLC went after Huishan in December last year. Having flown drones over some of its sites, Block alleged the milk producer was overstating sales and worth close to zero.
By March, it emerged that Chairman Yang Kai, who controlled 71 percent of Huishan, had pledged pretty much his entire stake as collateral for loans. The firm's finance chief disappeared, and a slew of directors quit. Block was also vindicated on allegations of fraud at Toronto-listed Chinese timber company Sino-Forest Corp. six years ago.
Those two examples are a lesson for short sellers braving Hong Kong's 33 percent stock surge this year. Both companies were operating in rather obscure industries. Bankers tasked with preparing IPO sale documents would be hard-pressed to prove either Huishan or Sino-Forest actually had the cows, milk or trees they claimed.
On the flip side, there's China Evergrande Group, long a favorite of short sellers. It operates in one of the world's most-assessed and analyzed industries -- China's property market. U.S. short-seller Andrew Left of Citron Research questioned Evergrande's financials in 2012 and last year was fined after a Hong Kong tribunal found he published "false and/or misleading" claims. Evergrande's stock is up an astonishing 500 percent since January, thanks in part to buying by billionaire Joseph Lau's Chinese Estates Holdings Ltd.
As well as deep-pocketed sponsors, short sellers should also be wary of robust brokerage support. As Gadfly has pointed out, Muddy Waters' attack on sofa maker Man Wah Holdings Ltd. hasn't been helped by bullish analysts. Dominant shareholders can sometimes be defeated, as Block found with Huishan's Yang. But, as many Evergrande non-believers who punted against Chairman Hui Ka Yan would know, they can also be an investor's undoing.
Share suspensions are another trap. Tianhe Chemicals Group Ltd. has been halted from trading since March 2015 after Anonymous Analytics alleged overstatement of profits and other accounting irregularities just months after the company's IPO.
Still, there are plenty of Chinese companies listed in Hong Kong that test the limits of poor corporate governance and that operate in hard-to-fathom industries. The city's regulators often have little control over such firms, whose assets and directors tend to reside on the mainland.
For short sellers prepared to do a bit of homework, there are still plenty of easy pickings.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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Katrina Nicholas at email@example.com