[Fin Talk] Cushioning the Impact of Regulatory Risks
By Arlyn Tan
Last Friday, the China stocks related to online learning dropped by as much as 50% because the China government wanted to turn the $100 billion private tutoring industry into a non-profit organization to support its long-term goals. It wanted to lessen the divide between the rich and the poor by allowing educational access to the majority. The government also wanted to take care of the well-being of the children by disallowing weekend and holiday tutorials. The restriction also aims to ease the financial burden that caused low birth rates.
More than 75% of students aged from around 6 to 18 in China attended after-school tutoring classes in 2016, according to the most recent figures from the Chinese Society of Education, and anecdotal evidence suggests that percentage has risen.
The affected companies are TAL Education group (TAL) ,which tumbled 55%< runs an after school tutoring program for the primary and secondary students. New Oriental Education Technology Group slid 60% while Gaotu Techedu 50%, Koolearn Technology sank 28 %. Alibaba also fell 3% because it is heavily invested in the online education sector.
The investors of the said stocks faced regulatory or legislative risks. “Regulatory risk is the risk that a change in regulations or legislation will affect a security, company, or industry. Companies must abide by regulations set by governing bodies that oversee their industry. Therefore, any change in regulations can cause a rippling effect across an industry. Regulations can increase costs of operations, introduce legal and administrative hurdles, and sometimes even restrict a company from doing business.” Changes in the regulations may hurt investors, but they can benefit the market competition and safeguard the interests of the people through anti-trust regulations.
The sell-off in this sector triggered the prices of other China stocks to go down because of fear that the government may impose unexpected rules. The regulations are evolving where the US is demanding the Chinese entities to be more accountable. On one hand, China wants to have regulations on data security to retain its control on the data of its people.
With these impending risks that can affect the valuation of companies, what are the options faced by the investors?
1. Diversify. Investors can spread their resources to different asset classes. It is best to have non -correlating assets where their responses to the new regulations can be inverse. When one asset is not performing, the other asset is doing well.
2. Lessen the exposure on particular sectors affected by regulations. For those currently holding a significant value of Chinese names, it may be wise to slowly trim the number of shares when there are price rallies. If one is invested in Edtech and China, he might consider investing instead in another sector like Health and US to lessen exposure to regulation risk.
3. Take Advantage of the Low Price. Because of the new regulation, the emotion that dominated the market was fear. In our country, when the government threatened to take over ABS-CBN and Manila, the confidence of investors was hurt. However, those who continued to invest in Manila Waters despite the turmoil last July 2020 earned 100%, assuming the investor is still holding the shares now.
4. Extend the time horizon instead of letting go of the shares at low prices. With the removal of the monopoly and the business becoming a regulated growth business, the valuation of companies changes. It will take some time to reach the company’s growth targets.
5. Invest in funds instead of directly investing in stocks. Since the effect of the regulation risks on stocks can be as high as a 50% drop, it might be better for those who may find the drop too stressful to invest in mutual funds or ETFs.
6. Follow the news. By being updated with the trends, you can spot the new sectors that are favored by regulations and those which are not. This will help you allocate your resources to your preferred companies while aligning them to your financial goals and timeline.
When you invest, you are taking a certain amount of risk. Do your assignment by understanding the impact of risks on your portfolio. Consider your age, time horizon and risk tolerance in assessing the types of assets that form your basket of wealth. This will allow you to have a certain level of cushion when the markets put downward pressure secondary to regulation changes on the prices of your assets.
Arlyn Tan is a Strategic Wealth Consultant. She helps individuals and organizations on how to maximize the value of their money through risk, health & wealth management. Her mission lies in making sure that clients achieve 3 things. First, they reach their milestones on time with sufficient resources. Second, they protect them from the impact of economic losses secondary to unexpected events. The third and most important is that they enjoy meaningful and balanced lives.
LinkedIn/Twitter: Arlyn Tan