Search

 

Cablegate: China's Stock Markets: Evolving "Policy Markets"

VZCZCXRO0241
RR RUEHCN RUEHGH
DE RUEHGH #0100/01 0801034
ZNR UUUUU ZZH
R 201034Z MAR 08
FM AMCONSUL SHANGHAI
TO RUEHC/SECSTATE WASHDC 6753
INFO RUEHBJ/AMEMBASSY BEIJING 1769
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUEHCN/AMCONSUL CHENGDU 1160
RUEHGZ/AMCONSUL GUANGZHOU 1131
RUEHSH/AMCONSUL SHENYANG 1158
RUEHHK/AMCONSUL HONG KONG 1292
RUEHIN/AIT TAIPEI 0970
RHEHAAA/NSC WASHINGTON DC
RUEHGH/AMCONSUL SHANGHAI 7292

UNCLAS SECTION 01 OF 03 SHANGHAI 000100

SIPDIS

SENSITIVE
SIPDIS

FRANCISCO FRB FOR CURRAN/GLICK; NEW YORK FRB FOR
CLARK/CRYSTAL/DAWSON
STATE PASS CFTC FOR OIA/GORLICK
CEA FOR BLOCK
USDOC FOR ITA/MAC DAS KASOFF, MELCHER AND OCEA/MCQUEEN
TREASURY FOR AMB.HOLMER, WRIGHT AND TSMITH
TREASURY FOR OASIA - DOHNER/HAARSAGER/CUSHMAN
TREASURY FOR IMFP - SOBEL/MOGHTADER
NSC FOR KURT TONG

E.O. 12958: N/A
TAGS: EFIN ECON PREL CH
SUBJECT: CHINA'S STOCK MARKETS: EVOLVING "POLICY MARKETS"

REF: SHANGHAI 97

(U) This cable is sensitive but unclassified and for official
use only. Not for distribution outside of USG channels.

1. (SBU) Summary: In a series of consultations with fund
managers, securities firms and investor advisory firms from
March 4-14, TDY Econ Officer solicited views on the drivers of
China's equity markets. An overarching theme is that China's
stock markets should be viewed in the special context that the
government is both the majority shareholder and the market
regulator. This fact, combined with China's relatively
insulating capital control framework, means that market swings
in China may in some cases demonstrate a certain degree of
autonomy from global trends. Interlocutors noted that as
Chinese markets mature, economic trends and macroeconomic policy
moves are having a greater impact on price trends. Given the
overall lack of transparency in economic policy making and the
often poor quality of economic data in China, stock market
trends may increasingly provide useful forward-looking signals
on the direction of China's economy. End Summary.

--------------------------
China's Equity Markets are a Work-in-Progress
--------------------------

2. (SBU) As domestic stock investors, brokers, and advisors
from both Chinese and joint-venture firms noted during meetings
with TDY Econ Officer from March 4-14, despite high market
capitalization and robust share-offering activity, China's
emerging equity markets are still mid-stride in a decades-long
reform process. The Shanghai and Shenzhen stock markets are
fundamentally different than most international markets and thus
China-specific factors must be taken into account when tracking
Chinese market movements against global trends. The government
has strong control over share supply as well as influence over
share demand. As both the largest shareholder and the market
regulator, the Chinese Government oversees a "policy market"
marked by high volatility. Overall, the absence of tools to
take short positions in the market means that profits come only
from market gains.

--------------------------
Non-Tradable Share Reform and the Supply of Shares
--------------------------

3. (SBU) Central to China's equity market development is the
non-tradable share reform, which phases in the proportion of a
listed company's equity that is permitted to be traded. The
plan for share reform was introduced in 2005, allowing for
increased tradability over a multi-year timeframe.
Clarification on how the "share overhang" would be allowed to
flow into the market helped to reassure investors and foster the
2006-2007 boom. (Note: The Shanghai Stock Exchange Composite
Index rose 130 percent in 2006 and 97 percent in 2007.)
Similarly, shares issued in initial public offerings (IPOs) are
bound by non-tradable lock-up periods. Aggregating data on a
firm-by-firm basis, one research team estimates that from 2007
to 2010, the overall "free float ratio" will climb from near 10
percent to 90 percent of total shares, with trillions of shares
becoming tradable in that time frame. Uncertainty about the
proportion of those shares that will actually be unloaded on the
market creates volatility and supports herd behavior in the
market, which is exacerbated by information asymmetry.

4. (SBU) Even as the non-tradable share reform phases in,
authorities retain considerable control over the supply of new
shares entering the market. Authorities can control the
availability of shares to guide investor expectations. Though
few interlocutors think the government will suspend the
non-tradable share reform in the event of a soft market, they
believe the authorities may lean on large firms to withhold
sales of newly tradable shares. In the event of excessively
high valuations, authorities might encourage share selling by
firms with newly tradable shares. Further, approval for all

SHANGHAI 00000100 002 OF 003


IPOs and secondary share issuances is granted by the China
Securities Regulatory Commission (CSRC), providing another check
on share supply. The CSRC modulates the pace of approval for
share offerings depending on market conditions.

5. (SBU) In the course of discussions, interlocutors noted that
Chinese authorities take measures to influence share demand as
well as share supply. To stoke share buying, the CSRC approves
quotas for new asset management funds. Expanding access to the
domestic market for foreign investors by raising quotas for
Qualified Foreign Institutional Investors (QFIIs) is another
option for policymakers to increase share demand. In addition,
authorities may increase the proportion of assets that pension
funds and insurance companies can invest in equities. Several
interlocutors noted that the CSRC has in the past resorted to
use moral suasion to encourage asset management funds to buy
shares, either during meetings with fund managers or through
phones calls. One director at a joint venture securities firm
saw this approach as decreasingly effective, as fund managers
are more concerned about their professional reputations and
performance than doing favors for the CSRC. In his observation,
efforts in the past two years by the CSRC to encourage buying by
funds had no discernable impact on the market. He noted that
even if the CSRC pressed large, cash-flush state-owned
enterprises (SOEs) to buy shares, SOEs are now bound by
performance targets and increased managerial accountability,
which would limit their cooperation. The director commented
that if a fund manager or SOE were to ultimately lose money from
such share purchasing, the CSRC would not bail them out.

--------------------------
Structural Changes and Market Reform
--------------------------

6. (SBU) In several conversations, interlocutors noted that
fast-moving economic development and reform measures impact the
composition of investors, company valuations, and investor
expectations. Investor composition has fluctuated in recent
years. The plan for non-tradable share reform boosted investor
confidence and drew droves of retail investors to a booming
market. However, market swings since May 2007 have led retail
investors to move substantial assets to accounts overseen by
professional fund managers.

7. (SBU) But fund managers indicate that share valuation is
complicated by weak accounting practices, changes in accounting
rules in 2006-2007, and the large amount of corporate
restructuring and mergers and acquisition activity. An
individual firm's price-to-earnings (P/E) ratio may reflect
hidden value or may overstate underlying value. For these
reasons, the usefulness of index-wide P/E ratios is limited.
The fact that investors can only take long positions on shares
creates an upward bias to P/E ratios in China.

8. (SBU) Both the announcement and implementation of reform
measures can have a notable impact on China's stock markets.
For example, in May 2007, the Ministry of Finance raised the
stamp duty on share trades from 0.1 percent to 0.3 percent,
precipitating a large drop in the market. (Note: The Shanghai
Composite Index fell 15 percent from May 30 to June 4.)
Authorities have delayed the launch of equity index futures for
fear of a dramatic impact on the market (cf. reftel). (Note:
Interlocutors generally thought that introduction of stock index
futures and other means to short the market will be an important
step for the maturation of China's stock markets, especially as
a means to facilitate price discovery.) In February 2008,
authorities mentioned consideration of a pilot stock margin
buying framework, an announcement seen by investors as an
attempt to boost the market. Investors may also react to the
government's periodic measures to liberalize the capital
account, given the resulting change in perception of demand for
shares.

9. (SBU) The reform process in China's stock markets lends to

SHANGHAI 00000100 003 OF 003


uncertainties and price volatility. At the same time China's
stock prices are increasingly reflecting domestic macroeconomic
developments and global events. China's stock markets are
becoming more sensitive to economic data releases and statements
by senior policy makers on macroeconomic policy measures. While
China's controls on portfolio investment flows insulate domestic
stock markets, the Qualified Domestic Institutional Investor
(QDII) and QFII programs provide a channel for portfolio inflows
and outflows, though quotas are carefully governed.
Interlocutors noted that movements in China's domestic "A-Share"
market are becoming more correlated with the Hong Kong market,
which itself tracks trends in the United States. Stronger
correlation with overseas markets is especially apparent for
firms that are cross-listed in overseas markets.

10. (SBU) Interlocutors highlighted a perception among
investors, particularly among less-experienced retail investors,
that the government would use the measures outlined above to
ensure that markets continue to rise. Previous government
interventions support this notion, creating expectations for
future interventions and moral hazard. During past market
downturns, reports circulated of disgruntled investors
protesting at government offices and of an investor phoning in a
bomb threat to the local Ministry of Finance building. One
securities firm director professed that the CSRC's ability to
control the market is weakening, and he noted that if stock
index futures are launched, the CSRC may lose control completely.
JARRETT

© Scoop Media

 
 
 
 
 
World Headlines

 

Werewolf: Gordon Campbell On North Korea, Neo-Nazism, And Milo

With a bit of luck the planet won’t be devastated by nuclear war in the next few days. US President Donald Trump will have begun to fixate on some other way to gratify his self-esteem – maybe by invading Venezuela or starting a war with Iran. More>>

Victory Declared: New Stabilisation Funding From NZ As Mosul Is Retaken

New Zealand has congratulated the Iraqi government on the successful liberation of Mosul from ISIS after a long and hard-fought campaign. More>>

Gordon Campbell: On The Current US Moves Against North Korea

If Martians visited early last week, they’d probably be scratching their heads as to why North Korea was being treated as a potential trigger for global conflict... More>>

ALSO:

Gordon Campbell: On The Lessons From Corbyn’s Campaign

Leaving partisan politics aside – and ignoring Jeremy Corbyn’s sensational election campaign for a moment – it has to be said that Britain is now really up shit creek... More>>

ALSO:

Another US Court: Fourth Circuit Rules Muslim Ban Discriminatory

ACLU: Step by step, point by point, the court laid out what has been clear from the start: The president promised to ban Muslims from the United States, and his executive orders are an attempt to do just that. More>>

ALSO:

 
 
 
 
 
 
  • Pacific.Scoop
  • Cafe Pacific
  • PMC