HONG KONG -- The gory details of China's stock market scandals are beloved by the financial media. Who could resist a story in which a company, Kangmei Pharmaceutical, blames an "accounting error" for overstating its cash holdings by as much as $4 billion? And who could stifle a snigger when another Chinese company, China Animal Healthcare, claimed that five years of accounts were lost when a truck carrying them was stolen?
As long as you did not lose money in these scams, they amounted to little more than surprising interludes in the compelling narrative of China investing.
But that is changing. Investing in Chinese stocks -- whether they are listed in New York, Shanghai, Shenzhen or Hong Kong -- is becoming an increasingly fraught activity as U.S.-based activists try to turn financial markets into a new front in the U.S.-China trade war.
A whole gamut of issues, in addition to the scant protection that U.S. investors have against Chinese accounting scandals, are attracting scrutiny. The relationships between certain Chinese companies and Beijing's military, espionage agencies, surveillance state, human rights abuses and industrial policy are all becoming questions that investors can no longer afford to ignore.
"[We need] to send an unmistakable message to Wall Street and other fund managers and index providers that henceforth the material risks associated with Chinese corporate national security and human rights abusers must be taken into proper account," said Roger Robinson, president and chief executive of RWR Advisory Group, a Washington-based risk consultancy.
The central problem, as suggested by the Kangmei Pharmaceutical case, involves accounting risk. China does not allow U.S. authorities to independently audit the Chinese companies that are listed on U.S. exchanges, claiming that to do so would amount to a violation of sovereignty and endanger state secrets.
This means that U.S. investors in the 156 Chinese companies listed on their country's largest exchanges must put their faith in Chinese auditors. Such risks may have seemed acceptable when the businesses involved were relatively small and peripheral to the benchmark indexes that govern the investment decisions of the world's largest pension funds. But this is no longer the case.
This growth -- and the recent inclusion of China's domestically listed A-shares into benchmark indexes compiled by MSCI, the index company -- has meant that big chunks of the West's pension savings are being funneled into Chinese companies. For instance, Chinese corporations make up 7.6% of the MSCI All Country World Index ex-U.S. and around 32% of the MSCI Emerging Markets Index.
Neither the U.S. nor any other country outside China has any way to check the work of Chinese auditors on listed Chinese companies. This is despite the regular eruption of accounting scandals that have rocked China's domestic exchanges and the fact that Chinese companies often gain access to U.S. listings through "reverse mergers" and other exotic structures that further limit transparency.
With this in mind, a number of U.S. senators -- led by Marco Rubio, a Republican -- proposed legislation this year that would force companies listed in the U.S. to allow the Public Company Accounting Oversight Board to access financial records tied to the audits. The proposed legislation, called the Equitable Act, would give companies three years to come into compliance with U.S. regulators or face delisting.
The chances of Beijing accepting this are close to zero, meaning that if the act is passed into law, it would potentially trigger the delisting of scores of Chinese companies.
In the meantime, Rubio and fellow senators are targeting U.S. funds -- especially those that manage government money -- that are increasing their exposure to Chinese companies. Last week, the senator called upon the chairman of the Federal Retirement Thrift Investment Board to reverse a decision to shift a multibillion-dollar portfolio into Chinese companies that support the People's Liberation Army, the surveillance state and Beijing's state-led industrial policy.
"The Federal Retirement Thrift Investment Board made a shortsighted -- and foolish -- decision to effectively fund the Chinese government and Communist Party's efforts to undermine U.S. economic and national security with the retirement savings of members of the U.S. Armed Services and other federal employees," Rubio said.
U.S.-China financial relations are set to become a whole lot more tense.
James Kynge is editor of Tech Scroll Asia, a newsletter on technology in Asia that combines the best reporting from Nikkei and the Financial Times. He is also the FT's Global China editor, writing about China's growing footprint in the world, and won the Wincott Foundation award for the U.K.'s Financial Journalist of the Year in 2016. His prizewinning book, "China Shakes the World," was translated into 19 languages.