It was two years ago, in June of 2015, when just as the Shanghai Composite was flirting with 5,000 and when literally the local banana stand guy was trading stocks, that the Chinese stock bubble burst, unleashing an unprecedented selling spree, a 40% drop in just two months, and Beijing’s nationalization of the stock market, courtesy of the domestic plunge protection team, the China Securities Regulatory Commission also known as the “National Team”.
The decision by local authorities to effectively shut down price discovery had a huge confidence crushing impact on local investor confidence. As Gavekal Research put it overnight, “the lack of trust was crystallized by the decision in the summer of 2015 to “shut down” the equity markets for a while and stop trading in any stock that looked like it was heading south. That decision confirmed foreign investors’ apprehension about China and in their eyes set back renminbi internationalization by several years, if not decades.”
Understandably, with the realization that China (or any other nation for that matter), no longer has a an efficient, discounting stock market, but merely a policy tool meant to inspire confidence on the way up, and punish short sellers and “speculators” on the way down, the China Securities Regulatory Commission kept a low profile: after all why remind traders and investors that the local market only exists in the imaginations of several Beijing bureaucrats who sit down every day to decide the “fair value” of all market-traded equities.
That changed last week, when for the first time in years, the Chinese Plunge Protection Team broke its silence and said that “state meddling has successfully stabilized China’s US$7 trillion stock market by curbing volatility and steering valuations to rational levels.“
For those stunned by the idiocy in the circular statement above, don’t worry it’s not just you: China indeed just said that the local market has become more efficient as a result of more manipulation. What is far more shocking, however, is that most central bankers around the world would agree with this statement.
As SCMP adds, in this rare move to comment on the market performance, the China Securities Regulatory Commission said in a statement on its website on Tuesday that the gauges tracking the nation’s big-cap blue-chip stocks beat the world’s other major benchmarks such as the Dow Jones Industrial Average and UK’s FTSE 100 Index in the first seven months of the year. In spite of the outperformance, the valuations were still lower than the global peers, it said.
It did not say that the “valuations” would be whatever the CSRC decided they should be, and not a penny less or more. That much was assumed.
Here are some striking facts showing what state intervention in quote-unquote markets looks like: within the 140 trading days in the period, the benchmark Shanghai Composite Index had not closed up or down by more than 2% and registered only eight days with daily movement exceeding 1 per cent, the CSRC said in the statement.
Clearly unaware of the Efficient Markets Hypothesis and what “price discovery” means, the Chinese regulator produly attributed the tame market performance to state-linked funds, which were created during the equity crash in 2015 to shore up stocks, and said maintaining market stability was the pre-condition for carrying out reforms. In other words, China’s stock market will never again be allowed to suffer a crash, and in the process, the whole concept of a fair and efficient market has been thrown out of the window.
“The CSRC has put the prevention against financial risks at a more important position and taken a series of strong measures to rid any potential risks in collaboration with relevant departments,’’ the regulator said in the statement.
To be sure, nothing about the above statement is a surprise: even after the 2015 market rout that almost erased $5 trillion in market value, the state funds, also known as the “national team”, continue to frequently interfere and meddle in the market, usually in the last hour of trading when an “inexplicable” force sends the stock from sharply lower to just barely in the green, in the process “restoring confidence” in the stock market, or so they think. The most prominent case this year was January 16, when the Shanghai Composite almost recouped an intraday loss of as much as 2.2 per cent in the last 30 minutes of trading to end the day only 0.3 per cent lower. The miraculous recovery happened shortly after Beijing ordered “no market selloffs during Xi Jinping’s Davos Trip, and sure enough…
… that’s precisely what happened.
Unlike the US, China is not ashamed to admit that there is no such thing as “price discovery” in its stock market, where everything is a function of daily government intervention. State-linked funds, mainly operated by China Securities Finance and Central Huijin investment, are estimated to hold stocks worth about 1 trillion yuan (US$150 billion) now, according to fund tracker Howbuy.
And if Beijing has to hold 1 trillion yuan in stocks when the “market” is stable, one wonder what will happen when things start turmoiling once again: will Beijing simply nationalize the entire stock market during the next market crash?
Meanwhile, it did not take long for the adverse consequence of China manipulating its market to emerge: while state intervention reduced price swings in what until recently was the world’s most volatile emerging stock market, it has come at a cost of waning trading activities among retail investors, who make up 80% of transactions. The number of new investors is growing at the slowest pace in almost two years, and turnovers remain down 80% from the all-time high, as nobody has any confidence or trust left in any displayed “price.”
Just like in the US, the 100-day volatility on the Shanghai Composite fell to a record low of 8.6 in May and it currently stands at 9.3, according to data compiled by Bloomberg. China’s CSI 300 Index of the nation’s 300 most valuable companies climbed 13 per cent in the January-to-July period, outpacing Dow Jones Industrial’s 11 per cent gain and FTSE 100 ’s 3.2 per cent advance.
As long as China, along with every other central bank, continues to supress volatility artificially, it is unlikely that any major market turmoils will emerge. The flipside is that the longer China, and other developed nations, kick to can on realizing fair market value, the more dire the collapse will be when (or maybe if) price discovery is once again permitted.