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Hong Kong and its National Security law: The view of a Hong Kong based fund manager

29th May 2020

The recent events in Hong Kong are making headlines and have become a political tool in the hands of the Trump administration. Trying to stay as rational as possible, we wanted to provide our readers with our views on the ground.

Let’s start with the background. The National People’s Congress (NPC), the legislative body of China, is about to promulgate a National Security law to become part of the Basic Law, the mini-constitution of Hong Kong. The National Security law’s purpose is to criminalise acts of sedition, secession, treason and terrorism, which is something that most sovereign countries have in their own constitution. For instance, in the U.S., treason is covered by Article III, Section 3 of the U.S. Constitution, and sedition by Title 18 of the U.S. Code of Laws. The reality in Hong Kong, however, is that when Chinese and British negotiators drafted the Basic Law, it was agreed and written black on white in Article 23 that the Hong Kong government would have to pass such a law after the handover of Hong Kong in 1997. A first attempt in 2003 to do so failed following large scale protests, and the matter was postponed sine die. In other words, twenty-three years after the handover, the city still does not have any law in place to arrest and put on trial anyone accused of such acts.

In mid-2019, the Hong Kong government took the initiative to draft a controversial extradition bill which led to severe chaos in the streets of Hong Kong, even after the proposed bill was finally shelved. During that period, some protesters openly fought for Hong Kong to become independent from China, some of them carrying the U.S. and British flags. The street violence also kept on escalating with some extremists taking possession of firearms and ammunitions and manufacturing explosives. Since then, many in Hong Kong were expecting the Hong Kong government to re-open the Article 23 issue to introduce a law against sedition, secession, treason and terrorism. Without warning, Beijing initiated the process during its annual NPC meeting.

The method Beijing chose may look abusive as it is a promulgation by the NPC, the legislative body of China, and not the work of the Hong Kong legislature. But Beijing actually used a specific provision of the Basic Law (Article 18) that allows the NPC to bypass the Hong Kong legislature under “special circumstances”.

Some may argue that the timing of Beijing’s initiative is terrible. The riots in 2019 already had a devastating impact on the Hong Kong economy. Mainland Chinese tourists all but disappeared. Shopping malls and luxury shops suffered tremendously, and so did hotels, restaurants and all businesses that relate to tourism. Then came COVID-19, and with it came the lockdown of Hong Kong borders and the total obliteration of whatever business related to tourism was still alive in Hong Kong. Bringing to life the Hong Kong Security Law issue now could be seen as a provocation by Beijing that contributed to the U.S.-China relationship reaching new lows that had not been seen for decades.

We would argue that the timing for promulgating a National Security law was actually well chosen. The Hong Kong economy is already on its knees after nine months of chaos followed by COVID-19. The U.S.-China relations are in tatter, things can hardly get worse. And the Hong Kong general public is in dire need of long-term stability. As to the impact on the Hong Kong economy of this National Security law, we are, surprisingly, optimistic. We would argue that the recent move made by Beijing, however controversial it is, will gradually bring back the confidence in Hong Kong that mainland Chinese investors had lost over the past year. By imposing its National Security law on Hong Kong, Beijing is reducing the risk premium attached to Hong Kong assets by providing better visibility over the future of the city, and it will hopefully bring back mainland Chinese investors and tourists who have been conspicuously missing for the past 18 months.

So what next?

The question of what will happen to Hong Kong after 2047 when the ‘One Country, Two Systems’ framework reaches its expiry date is haunting a lot of people. We don’t have a crystal ball, but we certainly do not subscribe to the conclusion Mike Pompeo drew which is that “Hong Kong has lost its autonomy”. Today Hong Kong still has its own judicial system, its own currency, a hard border with China, free press and no internet censorship. The Commissioner of China’s Ministry of Foreign Affairs in Hong Kong said earlier this week that the new National Security law “will not change the legal system in Hong Kong, nor will it affect the independent judicial power, including that of final adjudication, exercised by the judiciary in Hong Kong.” Let’s hope this will prove to be an accurate statement.

The Trump administration is now threatening to remove the special status that Hong Kong had been enjoying since 1992, whereby Hong Kong is treated differently from Mainland China. Our view is that the measures to be taken will be symbolic more than anything else: Exports from Hong Kong to the U.S. that are not re-exports from China and that were exempted from U.S. tariffs until now represent less than 3% of Hong Kong’s GDP and consist mainly of postal and logistic services. Any other action taken against Hong Kong would first and foremost hurt Hong Kong people, which is not necessarily the objective of the White House, let alone the impact any measure may have on the 1200 American companies that have operations in Hong Kong.

Another positive we see for the city is the potential listing in Hong Kong of Chinese companies currently listed in the U.S.  The Trump administration and the U.S. Senate have recently targeted Chinese companies listed in the U.S., forcing them to delist should they not comply within three years with U.S. accounting rules or not being able to prove that they are not controlled by the Chinese government. Alibaba has shown the way and has recently obtained a secondary listing in Hong Kong. We believe it is a matter of time for the other 146 Chinese companies listed in the U.S. with a total market capitalisation in excess of USD1.3 trillion to follow the trend and move their primary listing to Hong Kong, and ultimately delist from New York. As long as the capital account of China remains closed, the Hong Kong stock market will remain the best way to get access to the most prominent companies China has to offer. If anything, the unique position that the Hong Kong stock market enjoys will only be reinforced by the moves made recently by the Trump administration and by the U.S. Senate. This has been the driving force behind the share price of Hong Kong Exchange which outperformed the Hang Seng Index by 26% since the start of the year.

The information contained herein is issued by JK Capital Management Limited. To the best of its knowledge and belief, JK Capital Management Limited considers the information contained herein is accurate as at the date of publication. However, no warranty is given on the accuracy, adequacy or completeness of the information. Neither JK Capital Management Limited, nor its affiliates, directors and employees assumes any liabilities (including any third party liability) in respect of any errors or omissions on this report. Under no circumstances should this information or any part of it be copied, reproduced or redistributed. 

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