Can NYSE and NASDAQ make it in China?

Implications: NASDAQ and NYSE have finally opened offices in China after years of regulatory hurdles. They face stiff competition, not only from other overseas exchanges (London, Singapore, Frankfurt), but also from domestic exchanges like Shanghai, Shenzhen, and Hong Kong. Local policies and politics favor these exchanged over NASDAQ and NYSE.

Analysis: America's two top equity exchanges--NASDAQ and NYSE--are opening representative offices in Beijing this month. This comes after years of political wrangling between the US and Chinese governments over the fate of US exchanges' business in China.

The exchanges has been ostensibly waiting for new regulations on foreign exchanges to be promulgated before they could apply to open offices. The reality, however, is that NYSE and NASDAQ were pawns in a political battle at the highest levels of government. Indeed, the opening of these rep offices represents a key deliverable and sign of tangible progress in Hank Paulson's Strategic Economic Dialogue with China.

But will the opening of these two offices spur increased listings by solid Chinese companies in the US?

The answer is not really. Changes to Chinese regulations in late 2006 consolidated power overseas listings in the hands of the Ministry of Commerce (MOFCOM). MOFCOM now gets to approve the establishment of off-shore special purpose vehicles (SPVs). In practice this means that MOFCOM controls which companies are able to shift their assets offshore in preparation for a foreign listing.

According to widely held market information, MOFCOM has not approved any SPVs since the new rules came into effect. There are hundreds of applications for SPVs pending with MOFCOM. Why?

The Chinese government is, broadly speaking, aiming to ensure that all state-owned assets, and the best privately held firms, list in Shanghai or Shenzhen (or even Hong Kong) before they list in New York or London.

For NASDAQ and the NYSE, this means that while they will continue to see deal flow from some small- and medium-sized companies going overseas to list, very few of the better Chinese firms will list in New York as a first step.

This is not to say that the spigot will be completely cut off. To be sure, both US exchanges, along with their counterparts in London, Frankfurt, and Singapore, are making big pushes into China and should be rewarded with increased flow of small companies listing overseas (those that restructured their assets offshore before 2006). What is more, most market observers expect MOFCOM to loosen the reigns on SPVs sometime in late 2008 (after the Olympics).

Still, until the Chinese government is comfortable that the domestic equity markets are sufficiently liquid and attractive (maybe by inviting some foreign firms to list in China), policies will continue to favor keeping money onshore rather than allowing Chinese firms to list in New York.