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Will This Be The Last We See Of Chinese Market’s Wild Swing?
By: Dr Chan Yan Chong
Articles (200) Profile

As expected, the US Federal Reserve did not raise interest rates at its meeting on 17 June. The content and tone of the post-meeting announcement was also mild, which helped to cool down the expectations of a rate hike and also served as an advance notice of a slower pace of rate hikes next year. Wall Street rallied promptly after the announcement.

Unfortunately, the jubilance on Wall Street was not shared by stock markets in Asia. The precarious position of the Chinese stock market is a contributing factor for the difference. Global stock markets have been troubled by two issues in the past month – the outcome of the Fed policy meeting that has concluded and the Greek debt crisis.

Greece Is Actually Not So Serious

When compared to the European debt crisis, the current situation in Greece is actually less serious. The situation back then, which was dubbed the PIIGS (Portugal, Ireland, Italy, Greece and Spain) debt crisis, would have likely caused the collapse of the Eurozone if the nations involved defaulted on their debts together. In contrast, the present crisis is more or less contained within Greece only.

Should negotiations fail, the biggest loser would be Germany and its banks, for they are Greece’s largest creditors. Unless the German government is prepared to provide aid to the affected banks, I believe that German Chancellor Angela Merkel will eventually give in.

HSI & A-shares Plunged

On 18 June, a Beijing-backed constitutional reform package was rejected by Hong Kong’s Legislative Council. Voting took place as the Hong Kong stock market was taking its lunch break. When the market reopened at 1 pm, the Hang Seng Index plunged more than a hundred points before rebounding by more than two hundred points.

However, later on, the Chinese A-share market went into a free-fall, triggering the Hong Kong stock market to follow suit, albeit at a lesser degree. The following morning, the A-shares continued its fall, while the Hong Kong stock market bucked the trend and rebounded rather strongly.

Prior to the voting, many were worried that failure to pass the reform package would trigger a stock market crash. Yet, the situation turned out to be the opposite of the people’s fear, as the stock market held steady. The rejected constitutional reform affected Hong Kong’s democratic process, but not its stock market.

That said, if would have been wonderful if the constitutional reform proposal was passed, as it would imply that a faction of the moderate pan-democrats are willing to cooperate with the Special Administrative Region government. With that, the Hong Kong society will be less hostile towards mainland China, which in turn will benefit economic development. Now, we are maintaining status quo, which is not exactly a good thing.

For China’s central government, it would have been good if the constitutional reform was passed; if not, it is also not such a big deal. While the reform is opposed by the pan-democrat lawmakers, polls however showed that the majority of Hong Kong people were supportive. Hence, the central government should be pleased, and thus the public’s fear of any “punishment” was unwarranted.

Illegal Margin Trading Punished

Over the past week, a spectacular battle has been unfolding in the Hong Kong and Chinese stock markets. The combatants were large foreign funds versus Chinese retail investors. The Chinese A-shares plunged initially, after the Chinese government took action against illegal margin trading.

Margin trading is an unconventional money lending activity for stocks investors. In Singapore, the margin account leverage ratio is not high and rarely exceeds 1:2. However, the leverage ratio of China’s margin trade is often 1:4 or even 1:5. With margin trading, an individual can have negative equity when share prices fall below certain levels, putting them in debt.

Some time back, it was rumoured that someone took his own life over losses sustained in margin trading, prompting the Chinese government to order an investigation. Once this order was given, margin traders were forced to liquidate their positions, which triggered an avalanche as stock prices plunged. In just three days, the Shanghai Composite Index fell 17 percent.

At the same time, foreign funds knew that this wave of liquidation will be short-lived, so they entered the market in force to bargain hunt for A-shares. As a result, the Shanghai Composite Index pulled off a strong V-shaped rebound on the third day of the stock market crash.

These foreign funds’ strategy of focusing on the Chinese A-shares paid off handsomely; in all, the Shanghai Composite Index shed 17 percent in three days but rebounded strongly and quickly by 10 percent.

However, these foreign funds were on a hit-and-run mode this time round. They came in, bought up the liquidated A-shares at bargain-basement prices, and took massive profits two days later. This resulted in a spike in the trade volume on the Shanghai stock market, which caused a net selling position on the bourse.

SHCOMP Plunged

On 25 June, the Shanghai Composite Index plunged 3.5 percent. The tactics of foreign funds are heavily influenced by the broader market. When major markets are weak, these foreign funds will sound their retreat.

Since the opening of the Shanghai-Hong Kong Stock Connect, there have been claims of Chinese investors heading to Hong Kong to buy Hong Kong shares. This was the first time we saw foreign funds aggressively buying Chinese A-shares. In any case, with such easy money up for grabs, these foreign funds will be back in the future.

From now on, Chinese A-shares will no longer be an exclusive game for Chinese retail investors. We should keep a close watch over the changes in the available trade quota of the connect scheme.

The biggest difference between foreign funds and Chinese retail investors is that foreign funds will always go through the stock connect scheme, so the amount of funds transacted is very transparent. On the other hand, Chinese investors have many underground avenues to bring their funds over to Hong Kong to do their buying and selling, so their trail can be hard to trace.

There is also a divergence in stock selection. Foreign funds have limited interest in Growth Enterprise Market (GEM) stocks, junk stocks, and miracle shares – big favourites of Chinese speculators.

Many people have forgotten about the good news that from 1 July, Chinese and Hong Kong funds will officially enjoy mutual recognition. When this policy was first announced in May, many commentators said that Chinese investors will not be interested in Hong Kong’s fund, seeing how bullish the Chinese stock market was then.

However, looking at the recent massive correction in the A-shares, I believe many Chinese retail investors are beginning to consider setting aside part of their funds to buy Hong Kong equity funds, including H-shares and red chips fund. It is always safer to invest in funds with stock portfolios when treading into unfamiliar markets.

Dr Chan Yan Chong is a renowned investment expert with many accolades under his belt.

Please click here for more information about this author.


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