In an effort to maximize the potential of equity investment in supporting the real economy and promoting technological innovation, a new pilot initiative has been proposed in Shanghai that allows equity investment funds to distribute shares of stocks instead of cash dividends to their investorsThis proposal has garnered significant attention from both market participants and analysts since its introduction.

The concept behind the equity investment fund share distribution is relatively straightforwardEssentially, instead of issuing cash dividends when distributing profits, these funds can allocate shares they hold in eligible publicly listed companies to their investorsSpecifically, shares from these funds, representing pre-IPO allocations in certain public companies, can be transferred to investors without the need for trading through a stock exchange

While this type of share distribution is uncommon in the domestic A-share market, it has been employed in international contextsA notable example occurred in December 2021, when Tencent Holdings, listed in Hong Kong, utilized JD.com shares for dividend distribution—illustrating a prevalent practice internationallyIt’s important to note, however, that this pilot program in Shanghai applies solely to equity investment funds and excludes other entities.

It's vital to understand that the stocks allocated in this pilot program represent shares from companies that were issued prior to their Initial Public Offerings (IPOs). This means that the equity investment funds would be distributing what are referred to as "original shares." Consequently, this initiative involves the sensitive issue of reducing stakes in publicly listed companiesThis naturally raises concerns among investors about the potential for increased pressure to liquidate shares

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Questions have emerged surrounding whether this method could exacerbate the challenges related to cashing out of stocks.

Such apprehensions, however, may be unfoundedIn fact, the introduction of this share distribution mechanism is likely not to amplify the pressures related to liquidating stocksTo paraphrase, not only does this initiative not elevate such pressures, but to some extent, it may actually alleviate themAlthough the extent of this alleviation might be somewhat limited, leading to a lack of necessity for over-interpretation, it represents a positive dynamic.

The reasoning behind the assertion that this initiative would not escalate liquidity pressures primarily hinges on two key aspectsOne significant factor is that the shares eligible for distribution must be stocks that are already past their lock-up periods—meaning they are free from any restrictions on transferability

Shares in their lock-up periods cannot be transferred, hence they cannot be utilized for this distribution modelConversely, stocks that have entered their unlock periods can circulate freely, whether they are uniformly reduced by equity investment funds or diluted by investors, it does not alter the available amount of shares for circulationImportantly, the total number of original shares held by equity investment funds remains fixed, thus their subdivision among various investors doesn’t lead to an increase in overall quantity.

Additionally, if the equity investment funds opt for a unified reduction of their holdings, that concentrated approach can put significant pressure on the stock price of the listed companyIn contrast, allocating shares to a diverse pool of investors allows for distributed impact, which could mitigate stock price fluctuationsInvestors are unlikely to sell their shares all at once; some may choose to delay selling based on market evaluations, which would ultimately contribute to easing potential selling pressures.

Beyond mitigating liquidation pressures, the equity investment fund share distribution can serve various other beneficial functions

For instance, this mechanism can act as a novel exit strategy for equity fundsParticularly in bear market scenarios, bulk selling by funds can severely impact stock pricesIn these situations, opting for stock distribution enables funds to provide returns to their investors while simultaneously minimizing the adverse effects on stock prices from concentrated sell-offsThis represents a clearly advantageous solution for all parties involved.

Moreover, this stock distribution method flexibly accommodates diverse investor needsTraditional profit distribution within investment funds often favors cash transactionsHowever, during periods of market decline, selling stocks could exacerbate negative market conditionsChoosing to distribute stocks, therefore, minimizes market disruption while also catering to varied investor preferencesFor those requiring immediate liquidity, the option to sell distributed shares provides cash, while those anticipating market recoveries can hold on to their shares for potentially greater returns in the future.

The pilot initiative proposed by the Shanghai government to allow equity investment funds to distribute shares is a commendable move