Margin curbs hit Chinese markets

Chinese equities were getting decimated on brokerages’ move to tightening margin financing, spawning fears that the retail-driven bull run may be over.

China Shanghai
Source: Bloomberg

As dramatic as it may sound, or even compared to the antics from the Greek government, we have to put things into perspective.

For China, it is all the more important, simply because the stock markets are still seeing much more volatility compared to bourses from developed economies.

The China A50 plunged 6.5% on Thursday, the largest single-day drop since Monday 19 January 2015. Curiously, the last time it fell hard (-9.3%), was also due to margin lending curbs.

The only difference was that the clampdown on margin trading that originated from the regulators. This time round, the brokerages were front-running the tightening measures on margin financing.

Outstanding margin loans exceeded CNY 2 trillion ($322 billion) as of 27 May 2015, which is fivefold of the level seen one year ago. This speaks volume of the heightened risks of an over-leveraged Chinese equity market, as the brokerages seek to limit their risks should the market collapse.

Thursday’s plummet wiped out the month-to-date gain seen in the China A50. The index dropped more than 4% lower so far this month. However, the A50 is still up 20% this year. On the other hand, the CSI 300 remained higher on the month at 1.7%, although it drastically gave up most of its gains reaped in May. The index was up 9.1% month-to-date yesterday.

As I mentioned before, traders who are looking at Chinese equities need to have a higher risk tolerance due to the inherent volatility. The question many are now asking is whether the tighter margin rules will push Chinese shares into a deeper correction. As a corollary, the other question is if the brokerages will further constrict margin financing. There’s no easy answers.

The Chinese authorities certainly will welcome a higher stock market but quality of the move is more important. Against that backdrop, I continue to stay bullish on Chinese equities, particularly with several positive developments that may attract more liquidity into the capital markets.

One such development is the MSCI review of the possible inclusion of A shares into its MSCI Emerging Markets Index. Many international money managers are still underweight China, so if MSCI includes A shares into their EM index, this could potentially bring at least USD 10 billion into A shares, according to JP Morgan estimates.

The STI continued to languish, as receding global risk appetite aggravated the low demand for Singapore stocks. The Index was unable to hang on to the 100-moving average at 3424, dropping to as low as 3408, a two-month low. Majority of sectors are under pressure with half of the 30 component stocks in the red as of 4.15pm SGT time.

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