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One illustration of how financial ties between the US and China are breaking down comes from the recent experience of private equity’s “placement agents”. These are companies hired by buyout groups to help them raise new funds.
When their salespeople try to persuade US investors to commit cash to funds that will strike deals in China, they are in some cases not only being rejected but also criticised for having even pitched the idea, says a senior Hong Kong-based adviser to the industry. Some have been told they are out of touch, tone deaf and even unpatriotic.
They are making the pitch at perhaps the worst possible moment. US president Joe Biden has set out plans to ban some US private equity and venture capital investment into sensitive sectors in China. Sequoia Capital and GGV Capital have both announced plans to split their US and China businesses.
China’s anti-espionage and data laws and raids on US consultancies have rattled investors, as might the accounts of a travel ban imposed on Hong Kong-based Nomura banker Charles Wang Zhonghe. The US House of Representatives’ China committee last month accused BlackRock of profiting from investments that help the Chinese military, making other US groups wary of similar scrutiny. Investors are mindful, too, of future sanctions if China were to attack Taiwan.
Many North American investors “are not going to [put] new money into private equity in China right now”, says a senior dealmaker who has made lucrative bets in the country using funds raised in the US. At best, they might reinvest some of their profits from earlier funds into new ones managed by the same firm, the person said.
The pullback is significant because North American investors have long been the biggest source of cash for the private capital industry. They account for 50 per cent of all capital invested in private equity globally this year, according to the data provider Preqin. Just $62bn has been raised for Asia Pacific-focused funds so far this year, down from $173bn in the same period last year, the data shows. Fundraising for deals in Europe and the US has slowed, but not as sharply.
The problem for some private equity groups is that, having raised multibillion-dollar Asia-focused funds in the past few years, cutting off China dealmaking is not an easy option. Many are ramping up in India. The Asia private equity businesses of two of the world’s largest groups, Blackstone and KKR, are run by India-based dealmakers.
But it is difficult to deploy large sums of money in Asia without touching the world’s second-largest economy. And some non-US investors in private equity funds, especially Middle Eastern sovereign wealth funds, are keen for more exposure to China, not less.
So the buyout groups are trying to find ways to keep both groups happy. As is often the case in the private equity business, it involves legal and financial gymnastics. “Investors say, I still want to be in your fund, but I want you to create a new scheme for me and others like me that removes the China component,” a lawyer advising the industry said.
Separately, US investors are asking for restrictions on the involvement of Chinese investors in the private equity funds they commit money to, regardless of where they deploy the money. This year, buyout executives say, it has become increasingly common for North American pension funds to insist that Chinese groups should account for less than 10 per cent of the total fund. Meeting this demand can mean turning down significant sums of money, because China’s state-backed groups can write large cheques worth hundreds of millions of dollars.
Once a private equity group accepts Chinese capital for its fund, an executive at a US buyouts firm said, the US investors in the same fund demand it puts the mainland investors “in a straitjacket”. That includes refusing them a seat on the limited partner advisory committee, which is a group of the largest investors that advises the buyouts group. Some also insist that Chinese state-backed groups should not be allowed to co-invest directly in companies the fund acquires, since this would give them the right to additional information.
Since the private equity industry is often opaque, this version of US-China decoupling is largely hidden from public view — far more so than other industries. But it is just as significant. It is likely to mark a long-term shift in the flows of capital around the world. And it is forcing a group of dealmakers, who once focused almost entirely on financial returns, to take on a different role. These days they are the arbiters of competing demands from a fragmenting group of global investors, whose interests are increasingly political.