July 29 (Bloomberg) -- China’s stocks plunged, driving the Shanghai Composite Index down the most in eight months, on speculation the government will curb inflows into a market that had doubled from last year’s low.

The benchmark gauge lost 5 percent, snapping a five-day, 7 percent advance that pushed valuations to their highest since January 2008. The gauge has gained 79 percent this year as government stimulus spending, record bank lending and an economic rebound spurred demand for equities.

“Speculation the central bank may take steps to rein in liquidity worried the market,” said Gabriel Gondard, deputy chief investment officer at Fortune SGAM Fund Management Co., which oversees about $7.2 billion in assets. “A lot of people were looking to take profit” after the market gains.

Today’s slump failed to damp enthusiasm for China State Construction Engineering Corp., which jumped 56 percent on its first day of trading after selling stock in the world’s biggest initial public offering since March 2008. Jiangxi Copper Co. led the decline after first-half profit fell, while China Cosco Holdings Co. tumbled as it forecast a loss.

The Shanghai Composite sank 171.94 to 3,266.43 at the close, after slumping as much as 7.7 percent. The CSI 300 Index, measuring exchanges in Shanghai and Shenzhen, slid 5.3 percent to 3,558.51.

“Expensive valuations and jitters among investors about fast share-price gains are enough to trigger panic selling like today,” said Larry Wan, Shanghai-based deputy chief investment officer at KBC-Goldstate Fund Management Co., which oversees about $583 million in assets.

Possible Actions

Stocks plunged amid speculation the central bank is poised to order lenders to set aside larger reserves, Beijing-based Caijing magazine reported today on its Web site. Market News International said Chinese equities fell on speculation regulators will increase a tax on stock trading.

Jiangxi Copper dropped 9 percent to 42.62 yuan, paring its annual advance to 327 percent. China Cosco, the world’s largest operator of dry-bulk ships, slid 8.4 percent to 17.54 yuan.

China’s banking regulator issued rules on July 27 to ensure credit for investment projects flows into the real economy. China Construction Bank Corp. will cap full-year loan growth at about 900 billion yuan ($131.8 billion) this year, Beijing’s Caijing magazine reported yesterday, after loans grew 709 billion yuan in the first half.

The government unveiled a 4 trillion yuan stimulus package on Nov. 9 and dropped lending restrictions to support growth after exports collapsed. New loans tripled to 7.37 trillion yuan in the first half of 2009 from a year earlier.

Loan Targets

“Bank lending could be tightened in the second half of the year as new lending in the first half is already close to the full-year target,” said Li Jun, Shanghai-based strategist at China Central Securities Holdings Co.

Loans worth about an estimated 1.16 trillion yuan were invested in the stock market in the first five months of this year, China Business News reported June 29, citing Wei Jianing, a deputy director at the macro-economics department of the Development and Research Center under China’s State Council.

Stocks on the Shanghai index trade at 35.3 times reported earnings, the highest since January 2008 and more than twice the average of emerging markets. The Shanghai index is the world’s second-best performing stock market this year after slumping 65 percent in 2008. The index doubled in 2006 and 2007.

Poly Real Estate Group Co., the nation’s second-largest developer by market value, tumbled 8.7 percent to 26.56 yuan, trimming its advance to 140 percent this year. PetroChina Co., the world’s most valuable company, slid 6 percent to 15.22 yuan.

World’s Biggest

State Construction surged to 6.53 yuan from the 4.18 yuan offering price. About 4.2 billion shares changed hands, four times yesterday’s total trading in companies on the Standard & Poor’s 500 Index.

State Construction’s 50.2 billion yuan sale is the biggest in China since PetroChina Co. raised 66.8 billion yuan in October 2007, and the largest globally since Visa Inc.’s $19 billion IPO in March last year. The IPO values State Construction at 51.3 times 2008 earnings, the company said.

Individual investors have rushed to buy equities as regulators lifted a nine-month moratorium on IPO share sales in June. More than a million stock accounts were opened in the two weeks to July 24, data from the nation’s clearing house showed, the most since January 2008.

“I can tell you no institutions are getting in at these levels, the valuation is just crazy,” said Chris Tang, chief investment officer at Marco Polo Pure Asset Management in Hong Kong, which oversees about $120 million. “Traditionally IPOs make money, so retail investors are going to try their luck.”

Toll-road operator Sichuan Expressway Co. more than tripled on its debut trade on July 27, helping drive the value of shares traded on the nation’s stock exchanges to the highest since May 31, 2007, according to data compiled by Bloomberg. The company, the first to list shares in Shanghai since the end of the IPO ban, plunged today by the 10 percent daily limit for a second day to 8.83 yuan.

--Zhang Shidong. With assistance from Chua Kong Ho in Shanghai. Editors: Richard Frost, Linus Chua

To contact Bloomberg News staff for this story: Zhang Shidong in Shanghai at +86-21-6104-7014 or szhang5@bloomberg.net

Last Updated: July 29, 2009 06:24 EDT