Chinese equity markets started the year on the back foot. A and H shares fell 7% and 3% respectively on the first trading day of the year — the worst start of a new calendar year in the history of the Chinese equity markets.
That said, one good thing did come from the declines. The CSI300’s 7% drop triggered the new circuit breaker, allowing Chinese authorities to test the circuit breaker’s efficiency on its first day.
China’s new A share circuit breaker stops the whole market from trading for 15 minutes when the CSI300 index moves +/- 5% (Level 1) from the previous day’s close. The circuit breaker will halt trading for the whole day when the index moves +/-7% (Level 2) (that’s compared to movements of 7% and 13% for US equity markets).
China’s circuit breaker boundaries are tighter than most other markets, which usually stop trading for the day after a +/-20% move. However, 10% price limits remain valid at the stock level and the new rules only apply to the CSI300 index.
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Chinese equity markets: What triggered the selloff
There are currently four explanations being circulated to explain Monday’s selloff:
- A marginally weaker than expected Caixin PMI for December, which came in at 49.7 vs. Bloomberg consensus of 49.8, below 50 for the 10th consecutive month;
- market concerns over near-term liquidity conditions, notably the expiry of selling ban (on Jan 8) from major shareholders, the resumption of IPOs, and the confirmation of IPO reform in A shares;
- the continuing weakness of the CNY/CNH and the related concerns regarding capital (out)flows, domestic monetary tightening, and corporate earnings; and
- concerns about policy stimulus inaction (or lower intensity) as the government begins to emphasize supply-side reforms.
Macro factors are the most likely culprit. A weaker Caixin PMI for December is just one of the many statistics which shows that China’s economy is no longer the unstoppable giant that it once was. Goldman Sachs’ economists forecast China’s GDP to grow 6.4% in 2016 (from 6.9% in 2015), with a tough 1Q in terms of sequential growth momentum (5.8%). Underlying growth may be 1-2pp weaker than official GDP statistics — according to Goldman, other forecasters have more pessimistic views.
Staying on the marco front, Rmb depreciation is another important factor that’s weighing on the market’s mind. Goldman Sachs estimates that for every 10% depreciation vs. the dollar could on average boost/reduce 2015 earnings by 41%/81% for the beneficiaries/losers — those aren’t the sort of figures you can ignore.
Since the inclusion of the Rmb SDR basket on Nov 30 the onshore (CNY) and offshore (CNH) renminbi currencies has lost 1.6%/3.1%.
2016 will be the maiden year of the implementation of the 13th Five Year Plan.
Chinese equity markets: Market structure
Away from the macro, there are also concerns about the changing structure of Chinese equity markets. As noted above, these factors are liquidity related and are focused on the expiry of selling ban from major shareholders, the resumption of IPOs, and the confirmation of IPO reform in A shares.
On January 8, the ban on company shareholders with stakes of more than 5% from selling will be lifted and Goldman estimates that major individual shareholders with over Rmb1.1 trillion of stock holdings, representing 5.8% of total A-share free-float market cap, could be incentivized to sell following the double-digit market rally that’s taken place since the suspension was put in place. That said, there have been rumors that major shareholders won’t be able to sell even after the January 8 deadline which could improve the market’s outlook in the short-term, but further restrictions could have detrimental effects on long-term market liquidity.
On the IPO front, 28 companies have listed on the main, SME, and ChiNext boards, raising Rmb11 billion (US$1.7 billion) in total since the lifting of the IPO ban back in November. According to authorities, a further 600+ companies are in the pipeline to list. However, it’s believed that regulators will carefully manage the pipeline according to market conditions to avoid unnecessary liquidity squeeze/shocks. Still, an estimated Rmb1.2 trillion of A-share equity financing may come to the market this year, representing a 20% increase from 2015, 2.9% of A-share free-float market cap.
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