The Great Taiwan Bubble

Preface to the Chinese Edition

December 18, 2008

In The Great Taiwan Bubble, I described Taiwan and its financial markets as they were twenty years ago.
It was indeed a pretty crazy place. The stock market created what Professor Robert Shiller has called a
“self sustaining Ponzi process,” and the resulting asset bubble conformed closely to the models
described by both Professor Shiller and Professor Hyman Minsky. My book is really an extended case
study of an irrational market within the context of Taiwan’s well managed and successful economy.

Companies in the late 1980s were valued at an average of 100 times their highly theoretical earnings
which were derived by the country’s corps of highly flexible CPA’s who kept the score. One sleepy local
bank sold at 358 times its earnings, had a higher market capitalization than several international banking
giants combined, and had an implied growth rate which predicted that within thirteen years time the
gross national product of the entire world would be flowing through the company and paid out as
dividends to its lucky shareholders. Most listed companies were dominated by family ownership and
issued financial statements which indicated dangerous levels of leverage and precarious liquidity
positions. The market was plagued by governance and transparency problems, a legal system which was
hard to fathom at times, and numerous conflicts of interest. At times, the country’s capital markets
seemed to be no more than an extension of the flourishing underground banks, unlicensed margin
lenders, and popular money games.

This situation has changed drastically since then, and following a character building period for world
markets, Taiwan presents local and international investors with extremely attractive market valuations,
world class, financially sound companies, relatively low risk, and highly rated corporate governance and
transparency. Companies listed in Taiwan now offer investors an average price-earnings ratio of 9.1, an
average cash dividend yield of 9%, and an average price-book ratio of 1.0. The Top 10 positions in
Taiwan Greater China Fund, a New York Stock Exchange-listed fund which I manage, offer
unprecedented valuation characteristics: an average price-earnings ratio of 6.4, an average cash
dividend yield of 11.2%, an average price-book ratio of 1.3, an average current ratio of 2.4, average total
liabilities to net worth of 0.8, an average return on equity of 25%, and all this with average volatility
significantly less than the bluest of blue chips in the somewhat humbled American market. Taiwan as a
whole is now rated very favorably in rigorous independent international comparisons of country risk,
competitiveness, transparency, and corporate governance.

As Taiwan has made this impressive transition, the international market for financial slapstick seems to
be increasingly dominated by my own country. One can only imagine, the ghost of “Ironballs” Liu’s
grudging admiration for the scope and scale of Bernard Madoff’s masterly financial scam and the
polyester-clad accountant with a chop for rent, Mr. Chen’s awe and humility in the face of the Enron
fiasco and the behavior of the credit rating agencies which leaped to proclaim AAA ratings on pools of
mortgages which defied human understanding and collapsed into piles of financial junk. Irving, the well
dressed, traditional, relationship-focused commercial banker who trained for years in credit analysis,
must secretly enjoy a quiet chuckle at the transaction oriented investment bankers who sent him
unceremoniously out the door of his now crippled and nationalized bank years ago in an early round of
“right sizing” employees with such obsolete skill sets.

I hope that this modest case study of financial irrationality will be interesting to readers in China and
that it will not be viewed as criticism of their cousins in Taiwan. I would like to thank Industrial Fund
Management Company in Shanghai for taking the initiative in this project and salute their army of
excellent translators, including [list] under the sagacious leadership of Dr. Xin [full name]. I would like to
give special thanks to Xue Da-wei who acted as my principal contact in preparing the text and who
valiantly attempted to explain to his colleagues the somewhat sophomoric attempts at humor within it.
Finally, I thank both Pacific View Press and CITIC publishing for making this edition possible.

Steven R. Champion

West Hartford, Connecticut