Hello everyone and welcome back to the Wall Street Millennial podcast. On this podcast, we cover everything that's interesting that's going on in the finance and investing world. and today we have a very interesting stock to talk about. But before we get started.

Quick disclaimer that nothing in this podcast or any of our podcasts should be taken as investing advice. Uh, the stock we're talking about is a foreign stock that also has some liquidity challenges for anyone trading in and out of the stock. So be careful and consult with the professional before you make any investing decisions. So the stock we're talking about is higher.

So James Do you want to give a brief introduction on what this dog is? Yeah, so it's higher, higher smart home. It's a Chinese company that's one of the world leaders in home appliances. so that's like refrigerators, air conditioning, um, washing machines, things of that nature. and um, like they're one of the biggest home appliance makers in the world.

Uh, they sell in both. China Also, they're very big in Europe and North America um but it will get into this later. But what's really interesting about the company is not so much the company itself, but the uh, various different listings that their stock has um on different stock exchanges around the world and which kind of bring up some very interesting technical Arbitrage opportunities? Um, but I guess First off, um Ryan Do you want to share your screen and we'll go through um what the company does itself? Yeah, so this is High Air's website. So as James mentioned, they create um, home appliances like refrigerators, washing machines, uh, electric ranges and things of that nature.

Um, you actually probably know them even if you don't know it. Um, their higher name brand is is common in the US but they also own GE Appliances. So if you've ever bought if you ever use a GE refrigerator or something like that, then you already know Hires products. So they have a range of like.

They have a range of quality products with their different brands. and one thing that makes Higher a little bit more special is that they're very big on the smart home. So um, a lot of their like. A lot of their appliances are connected to the Internet of things and uh, they have a big push on like the connected Home where you can um, control your various appliances within your home from your smartphone via Wi-Fi or Bluetooth and things of that nature.

Yeah, so if you um so that that's the company itself. But what we really want to talk about on the podcast today is uh, the various listings of of higher stock. So Higher One public on the Shanghai stock exchange in China it is a China based company. Um, and if you pull up the the chart of it and you know, go to like the Max uh time period.

The stock was listed all the way back in the 1980s I think and it's been extremely successful. It's been a 27 bagger uh since since it ipo'd and the reason is because they've come to dominate the Chinese market. But not only that, you know, with their acquisition of GE Appliances Plus, they also acquired some European Home Appliance speakers. They've really become dominant not only in China but also in Europe and North America.

Where it gets interesting is in 2018 they decided to do a dual listing um or a secondary listing in the Frankfurt Stock Exchange in Germany and the thinking at the time was okay. we have our Um listing in China itself, but to get access to foreign investors and raise capital from foreign investors, they wanted to also have a listing on the Frankfurt Stock Exchange and that was the idea in 2018. Um. and if you can pull up the Uh the chart of the Frankfurt listing so kind of unlike the in the Shanghai stock exchange, you see that the stock really um, really was like a you know did extremely well.

but in the Frankfurt listing it's kind of just been flat since the IPO Um and one of the reasons was in Frankfurt Um. kind of almost by definition the types of investors who trade Um in Germany and like the Frankfurt Market, they are focused almost exclusively on European stocks, so most of them they they had never even heard of High Air. Most investors in Germany because higher does operate in in Europe. Some of the products they sell is under their High Air brand, but I believe they also have other brands um, other brand names in Europe.

So most people in Europe like I've never even heard of High Air and then so okay, what is this? uh, random Chinese company that's listing on the Frankfurt Stock Exchange And also at least to my knowledge, High Air is the first and only Chinese company that has ever listed on the Frankfurt Stock Exchange. So it was a very unsuccessful listing and the price didn't do well. And if you look at the current trading price of high Air Smart Home in Frankfurt is 1.22 Euros. so one Euro and 22 cents.

Um, and in in Shanghai it's 26 RMB the Chinese currency. And if you do the currency conversion, 1.22 Euros is equivalent to nine Chinese RMB. So on the Shanghai listing it's 26 RMB. On the Frankfurt listing, it's equivalent to nine Rmbs.

So what is that? Less than a third right? Or just about one-third Um, so it's the exact same company. the exact same stock. The shares on the Frankfurt exchange have the exact same economic ownership and voting rights as the Shanghai listing. Um, what that means in practice is that every time Haier pays a dividend to its shareholders, they pay the exact same um dividend per share.

You know, whether you own the stock in Shanghai or Frankfurts, it doesn't matter you get the same per share dividend payment. But because the Um because the Frankfurt listing is one-third the price of the Shanghai listing, you get three times the dividend yield. Um. and so that that is.

that is really interesting. Um, you know, How is. How can it possibly be the case that the exact same stock trades at such a massive discrepancy? Um in two different exchanges? Well, if you take a step back and look at Chinese companies in in Chinese listed stocks, it's not uncommon that there are discrepancies in listing prices. Um, High Air is a bit of a weird situation because they had a listing in both Shanghai and Frankfurt.

Most the vast majority of Chinese companies that have dual listing they'll have one listing in Shanghai and then there's another listing in Hong Kong And it's it's quite common for these Chinese companies for the Um Shanghai and Hong Kong listings to be to have a very different price. and I think we have an example with with China Life so um China life insurance Company this is this is a different. We're just using this as an example so it's a it's a large state-owned insurance company and um this here is the Shanghai listing which is uh, 36 RMB um per share. And if you look at the Hong Kong listing, it's 15 Hong Kong dollars per share.

And if you do the currency conversion, Uh the yeah. So if you do the currency conversion, the Shanghai listing of 36 RMB is equivalent to almost 42 Hong Kong dollars. So in Shanghai it sells for 42 Hong Kong dollars Hong Kong and sells for 15 Hong Kong dollars. So it's like three times the price.

Um, uh, so there there are massive differences Now, How can that? That brings the question, You know, how can this ever be the case, right? So given that there are two stocks the exact same company, why would anybody buy the shares in Shanghai when it's three times the price as the share in Hong Kong right? It's just like when you go to the supermarket and I'm like you see, um, two cartons of milk. One carton of milk is for three dollars, the other carton is for one dollar and it's the exact same milk. Obviously, you're gonna be uh, you're gonna buy the one dollar milk, not the the three dollar amount. But people do buy the Shanghai listing at the inflated valuation.

So why is this the case? Um, the main reason? sorry James if I could just add one thing like it's not like these are tiny stocks either. right? like China life insurance. This this example is a is a massive state-owned company. Like you mentioned, it's uh, almost a trillion Hong Kong dollars market cap which I believe is over a hundred million US dollars.

So it's not like just some small random example. These are like huge trends that are that are across the entire exchanges in Shanghai and Hong Kong. Yeah, exactly. And like the market is.

Um, you know there's millions of investors in the market. Like you know, even a toddler could see that you would rather buy the Hong Kong listing than the Shanghai listing. And it's this is. you know, there's millions of investors looking at this.

How can the market be so dumb as to have such a massive price discrepancy? Um, and it's actually a very simple reason. Uh, the reason is because mainland China has Capital controls. So what that means in practice is that domestic investors within mainland China itself. Um, they have currency and RMB the local.

Uh, the local currency in China the Chinese Yuan Um. And if you want to buy stocks on the Hong Kong Stock Exchange you have to have Hong Kong dollars. Now because of the capital controls within China they manage the currency very carefully. so they have you know very onerous limits of amounts of currency that somebody convert that a Chinese citizen can convert into foreign currency in any given year.

So if I'm an investor and I in China and I have you know all my savings are in Chinese Yuan RMB I am not able to convert that currency into a foreign currency which Hong Kong dollars are considered a foreign currency. Uh, so I don't have the option to buy on the Hong Kong exchange, so I am forced to instead. You know if I want to invest in China life insurance or hire a smart home or whatever the case may be, my only option is to buy on the domestic Shanghai exchange. Now the other thing you might ask is, um, what about foreign investors, right? If I'm a foreign investor and I see that the Uh Shanghai listing is way overvalued compared to the Hong Kong listing? Well Couldn't I do an Arbitrage trade where I'd buy the cheap Hong Kong stock and then I short the expensive Shanghai stock and I benefit from that.

You know that price differential? Uh, well, you can't do that because foreign investors are not. In general. There are some very small exceptions which are not really relevant, but for the vast majority of cases, um, foreign investors, non-chinese investors are not allowed to directly invest into the Shanghai stock exchange. Not only that, China has very strict regulations about short selling.

so even if you could, you wouldn't even be able to short. Um, and generally you would, you wouldn't even be able uh to short the Shanghai listed shares. Uh, to do your Arbitrage trade. So Arbitrage is impossible and Chinese investors are forced to buy the Shanghai listing the overvalued Tronkai listing based on the capital controls.

So that's how you get these massive discrepancies in price. Um, even though you know, even though it's the exact same company and there's no Arbitrage opportunity, so these discrepancies last forever. So given that that is the case, why are we talking about higher Smart Home in this podcast, Why are we not talking about China Life or any of the other hundreds of Um Chinese companies that are listed between Uh Shanghai and Hong Kong. Well, this is the reason.

So let's look at the Timeline Hire A Smart Home. They were listed in Shanghai in the 1980s. They wanted to have foreign capital in 2018, so they listed onto the Frankfur Stock Exchange. Now if it was just Shanghai and Frankfurt, you know this wouldn't be an interesting opportunity because you know whether it's Shanghai versus Hong Kong or Shanghai versus Frankfurts or Shanghai versus New York where Shanghai versus any other foreign exchange, Um, it doesn't make any difference.

It's a domestic Chinese exchange versus a foreign exchange. they're you know, fundamentally separated such that there is zero Arbitrage opportunity where it gets interesting in higher Smart Home Is they also listed? They had A in 2020? Um, they created a third listing and the third listing is in Hong Kong Um. In this third listing came about, you know, kind of almost accidentally. Um, so Hire Smart Home.

They had a majority owned subsidiary that was separately listed in Hong Kong. In 2020, Hire A Smart Home decided to buy out all of the minorities, all of the minority shareholders in this Hong Kong listing and it was structured as an all-stock deal such that the Hong Kong subsidiary stock became Higher Smart Home stock, right? So the subsidiary stock becomes the parent company stock and in effect that that has the exact same effect as if it were an IPO on the Hong Kong Stock Exchange. Even though it technically wasn't I mean the net effect is at the end. Higher Smart Home has another listing in Hong Kong.

So now the company has three listings: Shanghai Hong Kong and Frankfurt Shanghai is domestic in China. We can't touch it. We don't even need to worry about it. It's irrelevant.

Like the price in Shanghai could be one yen. it could be a trillion yen. It literally doesn't matter because we can't invest in it as foreigners. But as a foreigner, you can invest in the Hong Kong or the Frankfurts one freely.

And this is where it gets really interesting. Uh, if you want to pull up the price of the Hong Kong listing, so this is um, High Air Smart Home um Hong Kong listing and you can see that it sells for 30 Hong Kong dollars per share. And if you look at the Shanghai listing, it's it's almost the same value, right? So if it's 26 RMB versus 30 Hong Kong dollars if you convert the currency, they're almost the same. They're in like one I think you know one or two percent of each other I think.

but the Frankfurt listing is about two-thirds less, right? So you know when we did, it was um, if you, if you take it to Hong Kong dollars, so that the one Euro 22 cents of the Frankfurt listing is about 10 Hong Kong dollars, the Hong Kong listing is 30 Hong Kong dollars. So it's a two-thirds discount to the Hong Kong listing. Now, this is really where you start to scratch your head because um, in an efficient market, it should not be possible that the stock to stocks that have the exact same fundamental value uh, can trade radically different prices. Um, it just doesn't make sense.

right? On the Higher Smart Home Investor Relations website, they show you the size of the different listings. So you know on this chart here it's Smart Home. A This is the Shanghai listing. That's the primary listing.

Uh, Higher Smart Home H H stands for Hong Kong. So that's the Hong Kong listing and then High Air Smart Home D stands for Deutsch which is Uh Germany and that is the size of the German list. And then you see the um Shanghai The A share is, well, 166 billion. RMB Uh, so it's quite.

That's the biggest one. Hong Kong is 86 billion and then Frankfurt is only 11 billion. So the Frankfurt listing is the smallest by far. Why does this matter? Um, if you are a large Um investment fund, an Institutional Investor be at a mutual fund, a pension fund, or even an ETF liquidity is a huge concern that is, you know if you are for any given stock you want to buy, if you're an individual investor and you're going to buy a hundred dollars of XYZ stock and you just look at you know Google Finance and you see that that stock is trading at ten dollars I put it in order to buy 10 shares of it I'm gonna buy all of them at ten dollars.

But if I see that stock is ten dollars and then I put it in order to buy a billion shares of it. Well, there's not enough sellers on the market at any given time, so your giant order will, um, basically push, push up the price. Um, until you get to such an absurdly high level that sellers will come into the market, you know to take advantage of that. So when you are a large Institutional Investor Any trade that you make, a large trade that you make will unfavorably impact the price in whichever direction.

How much of a price impact you have depends on the liquidity of a stock. So say you wanted to buy, um, a billion dollars worth of Apple stock. Well, Apple was like a trillion dollar company. So even if you wanted to buy a billion dollars, there's so much trading volume in Apple's stock on any given day that you're not going to have a big price, but say you wanted to buy a billion dollars of some penny stock that has a hundred million dollar market cap.

Well, you would, um, kind of. By definition you would have to pull up. You would have to push up the price right. If you wanted to buy a billion dollars of it, you'd have to push up the price such that the market cap is at least a billion dollars.

Um, and so that that is really the concern. And with with high Air Smart Home. Uh, because the Frankfurt listing is so much smaller than the Hong Kong listing, a large Institutional Investor would prefer to buy in Hong Kong because because of the liquidity. uh constraint.

Now, because there is so little interest in Frankfurt in in the European market, people just don't even know this company. The amount of trading volume is disproportionately low, even compared to the even compared to the market cap of the Frankfurt listing. And if you look here, um, it shows you the average trading volume is 100 was that 109 000 shares per day? On average 109 000 shares, the stock price is 1.22 euros. So what is that like? a hundred thirty thousand Euros per day is nothing right? So 130 000 Euros a day? If I'm like a big uh, pension fund or mutual fund and I want to buy a hundred million dollars of this stock.

Or say you know, just to make the number simple: I Want to buy 130 million dollars worth of this stock. The daily trading volume is only a hundred thirty thousand. So that's 1 000 days of trading volume for me to build my 130 million Euro position. Which is, you know if you tried to buy that in one day, this price you know it would go up to like 100 years.

Something crazy because there's just so little volume. so this basically makes the stock inaccessible to the vast majority of of institutional investors even ETFs So Um, for the most part, the only people who could even buy hire a Smart Home Frankfurt listing are individual investors. Um, so this Market is controlled pretty much only by individual investors now. Uh, it could be the case that a lot of individual investors just don't even know that this Frankfurt listing exists.

And then you know, say I'm an individual investor, you know. I Do some research on the Chinese market. Um I Think higher. Smart Home is like a really great company and it's a Chinese stock.

So you kind of assume that it's listed in Hong Kong because that's where the vast majority of the the Chinese stocks are listed. and so I just see it in Hong Kong and I buy it in Hong Kong Okay, so so we've covered why this inefficiency exists. We've explained why. Uh, we found out why it's not a violation of No.

Arbitrage and um, why only individual investors small-time investors could potentially even Trade It. But if you are a small investor who can access both the Hong Kong and the Frankfurt listings, how would you, How would you make money off of it? Yeah, So here we we made a chart that shows the Um valuation discount of the Frankfurt listing versus the Hong Kong listing over time. and um, it's basically been steadily declining over the past a couple years. Basically, since the Hong Kong listing was first listed.

Um, so back in beginning of 2021, the discount was about 30. so that the Frankfur share was about 30 cheaper than the Hong Kong share. Um, but that discount has actually widened to two-thirds Almost two-thirds. So uh, had you done the Arbitrage position, shorting the Hong Kong share and longing the Frankfurt share, you actually would have lost a lot of money.

Now that's what makes the Arbitrage position very risky is that you know even if it is an Arbitrage, um, The Gap can just keep getting wider. And there's no particular reason to believe that the Gap will close anytime soon because the reasons for The Gap the liquidity issue uh, will probably continue to remain indefinitely. So given that is the case, given that the Arbitrage you know might not not even work, why is this still interesting Now in my opinion, and I personally have a long position in the Frankfurt listing is because even if you're not going to benefit from, you know, an actual Arbitrage The fact that the Frankfur listing trades a two-thirds discount to the Hong Kong listing just makes it undervalued. So uh, based on my estimates for 2022 earnings, the Frankfurt listing of the stock has a price to earnings ratio based on 2022 earnings of five, right? So it's the Frankfur listing is five times earnings.

Well, the Hong Kong listing is 15 times earnings and based on my estimate of the forward dividend yield, the Frankfur listing has a seven percent dividend yield, while the Hong Kong listing has a 2.5 dividend yield. So even without doing an Arbitrage position, just by buying the Frankfur listing, you're buying a company at five times earnings and a seven percent dividend yield. And they've been consistently increasing the dividend over time and the company has been consistently growing its revenue and earnings. um, per share.

Uh, you know, over the years because they've been very successful, They've you know, become the market leader in China uh in home appliances and now I think almost 50 percent of their revenue comes from outside of China because they've been very successful in Europe and North America So it's just like a very high quality company. I Mean it's just going back to like the the Shanghai listing. it's been a 27 Baggers since it IPO in Shanghai It's just a very high quality company that you have an opportunity to buy uh Dirt Cheap valuations of five times earnings in a seven percent uh dividend yield. So I think the best option is just buy the Frankfurt listing outright and uh, don't even worry about doing any Arbitrage trade.

Yeah, so I I Really love this investment thesis that you've laid out and I personally plan to put on a a long position myself in the Frankfurt shares. You know, five five times earnings. Usually those types of companies are declining companies that, um, are just dying companies. but uh, purely for technical reasons.

In this case, whereas you see on the efficient markets like Shanghai and Hong Kong the uh, the smart money is assigning it three times, three times higher multiple than what you're getting it than what you're getting it for on the Frankfurt exchange. Um, because the company is actually a very high quality uh, business that is still growing in a leader in the international markets. So I think it's it's a awesome investment opportunity. Again, this podcast should not be taken as investment advice.

This is just our opinions. but uh, this is a very interesting, uh, little known, undiscovered Nuance on the markets. So with that um I think we're about at times so we'll wrap it up. Um, thank you everyone for watching or listening to the Wall Street Millennial podcast and we hope to see you again next time.

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