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U.S. banks JPMorgan Chase & Co. (NYSE: JPM) and Morgan Stanley (NYSE: MS) announced Friday that they gained approval for securities joint ventures in China's mainland stock market, opening the door for Wall Street to profit from the booming Chinese initial public offering (IPO) market.
JPMorgan will pair with First Capital Securities and hold a 33% stake in the new venture, while Morgan Stanley will also hold a 33% stake in its partnership with Huaxin Securities, also known as China Fortune Securities. The deals give the U.S. firms ability to underwrite stock and bond offerings, but not conduct sales or trading on the mainland.
The banks are the first U.S. firms to be approved for such deals in six years. The last deal was in 2004 when Goldman Sachs Group Inc. (NYSE: GS) got the green light to partner with Gaohua Securities.
Wall Street firms are eager to break into China's mainland market, even with minority stakes, due to stronger growth projections for China's domestic capital market compared to little room for growth at home.
"China has the world's second-biggest stock market, where every investment bank has to find its niche," Zili Shao, chairman and chief executive of China for JPMorgan, told The Wall Street Journal. "This is a platform. We must have this capacity or else our franchise will have a gap" in global offerings.
Goldman Sachs' economists estimate that China's combined equity markets – including Hong Kong – will surpass the United States to become the biggest in the world by 2030.
China's security firms have dominated its domestic market, but foreign firms are going after slices of market share for a promise of future growth.
"The joint venture is one critical piece of a larger equation for us in China," Gaby Abdelnour, chairman and chief executive of JPMorgan's Asia Pacific operations, told WSJ. "Our objective is to become one of the top players over the next few years."
While Chinese regulators restricted U.S. banks entry, European banks like UBS AG (NYSE: UBS), Credit Suisse Group AG (NYSE ADR: CS), and Deutsche Bank AG (NYSE: DB) have all formed Chinese joint ventures in recent years.
This is Morgan Stanley's second venture into the Chinese market after it sold its stake in China International Capital Corp. last year. Morgan Stanley formed the partnership with China Construction Bank in 1995, but then lost management control after repeated disputes over business decisions.
JPMorgan has defended criticism for sitting out on the Chinese market for years, but said it wanted to wait for the right partner before striking any deals.
"Any mistake you make in China could take as long as a decade to fix," said JPMorgan's Shao.
The partnerships came just ahead of a planned U.S. visit by Chinese President Hu Jintao later this month, when U.S.-China business relations in the financial sector will be a main discussion point.
Smaller IPOs Take Charge in New Year
U.S. banks hope increased access to China's securities market will benefit them in 2011 when the growing Chinese IPO market continues to soar.
The Shanghai and Shenzhen stock exchanges together raised $72.1 billion in IPOs and surpassed the Hong Kong and New York stock exchanges for the first time, according to data provider Dealogic. The two mainland exchanges have a combined market capitalization of $3.572 trillion, second only to the New York Stock Exchange.
"It's amazing that Asian markets took over 66% of the transactions for 2010 up until November. We don't see any change for that in 2011," Julie Teigland, head of strategic growth markets Europe, Middle East, India and Africa at Ernst & Young, told CNBC.
"Continue to bet on Asia. The growth markets there are really coming out strong."
Sinovel Wind Group Co., China's top wind turbine producer, announced its intended price range Tuesday for its IPO, which is on track to be the first major offering of the year. The renewable energy company plans to raise $1.4 billion, which would make it the most expensive IPO ever in per-share terms on the main board of the Shanghai Stock Exchange.
With a lot of last year's IPO money stemming from large offerings, like the $22.1 billion IPO from state-owned Agricultural Bank of China Ltd., small and mid-sized deals are expected to grab attention in 2011.
"China middle-market IPOs have generated more fees than have large-cap IPOs," said Todd Marin, JPMorgan's head of investing banking in Asia Pacific. Marin estimated middle-market fees run about 5% or more, and large-cap IPO fees are closer to 2%.
Marin defines small and mid-sized IPOs as those raising up to $150 million. While most foreign firms don't focus on the smaller and middle market, the opportunities are attracting overseas attention.
"[I]t is a market that presents a great deal of potential and no one can ignore the [small and mid-sized] market now," said JPMorgan's Shao. "Certain adjustments in (foreign firms') business model will need to be made, but the shift will be relatively gradual."
Money Morning Chief Investment Strategist Keith Fitz-Gerald in November outlined the dramatic growth in China's IPO market and what it means for investors.
"The United States – and Wall Street – is surrendering its mantle as the global center for IPOs," Fitz-Gerald said. "In fact, unprecedented demand for IPOs in Asia has reduced the U.S. share of the global IPO market to an all-time low. China topped the field by raising the most money of any single country. This says a lot about the respective outlooks for the two countries' economies."
Fitz-Gerald said this continued pull toward Asian markets is telling investors where they should be looking in the New Year.
"The bottom line is that Asian markets are where the growth is and will be which is why the amount of capital headed that direction is accelerating," said Fitz-Gerald.
News and Related Story Links:
- The Wall Street Journal:
Two Banks Gain Access Within China
- The New York Times:
Banking Giants Get Nod From China
- Money Morning:
Chinese IPOs Making Waves in the Market, but Beware of Bubbles
- Money Morning:
Asia's Surging Economic Growth Pushes Global IPO Market to Record High That Will Continue in 2011
JPMorgan Says Smaller Deals Key to China Underwriting Success
Global IPO Proceeds to Reach Record High in 2010
- Money Morning:
Sorry Wall Street – Asia is the New King of the Global IPO Market