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In China, can investors trust that books aren’t cooked?

By jackbassteam on December 11, 2012 • ( 2 )

Profile: Carson Block, the 36-year-old short seller whose Muddy Waters fund is embroiled in a knock-down, drag-out fight with Singapore-based Olam International Ltd. The story’s not just essential background to the Olam fight that has been in the news recently; it’s a must-read for anyone with any involvement in Chinese stocks.

Block has made his reputation mainly sniffing out improprieties in China. His calls have preceded the loss of $7 billion in value among his targets. For this he has been rewarded with the usual barrage of criticisms and lawsuits levelled at short sellers. He says he’s also been followed by thugs and blocked in his investigations by China’s security service.

What’s most relevant and troubling here for other investors in China is that the harassment seems to have succeeded. It’s not accidental that Olam, the commodities trader that is Block’s latest target, is based in Singapore. Whatever criticism Block has faced there (and there has been plenty), Block is at least secure that it’s not a “thugocracy.”

In the background of the Block story, as Gammeltoft notes, is the U.S. Securities and Exchange Commission‘s probe of accounting at U.S.-listed Chinese companies. It’s not just short sellers like Block who are getting stonewalled in China; that’s to be expected in his business. It’s U.S. securities overseers as well.

The Shanghai Stock Exchange Composite Index peaked in September, 2007, at 5532; (chart above). Since then it has lost 62 percent of its value. In itself that’s not suggestive of widespread fraud, nor is that kind of drop unique to China — remember the Nasdaq decline of 2000 to 2001? The problem for investors here is that the combination of high expectations for Chinese growth and financial information of uncertain reliability is a recipe for bubbles and crashes.

Jack A. Bass is the author of The Gold Investor’s Handbook available from Amazon.com