China's shares took a severe beating on June 4 in another sign their gravity-defying climb has got to plummet back to earth. Panicky investors rushed for the exits, pushing the key CSI 300 Index down 7.7%. The index, which tracks yuan-denominated A-shares listed on the Shanghai and Shenzhen exchanges, has declined 16% in four trading days.
Monday's fall was the biggest drop in the CSI 300 since a 9%-plus blowout on Feb. 26 that rattled markets worldwide. The June 4 plunge in Chinese shares had little effect on other Asian bourses, with stocks in Japan, Hong Kong, and South Korea all posting gains.
"Most retail investors are scared and they dump [stocks]," says Tony Yam, chief investment officer at Simon Murray & Associates (China), a Shanghai-based institutional fund which invests in A-shares. The CSI 300 Index had nearly doubled this year before the government tripled the tax on share trades after the market closed on May 29. How far the index will fall is anyone's guess, but in a market where stock picking on the basis of fundamentals and value trading has long taken a back seat to speculation and momentum trading, the correction could be very painful indeed.
Spillover Into Blue Chips
This is especially true for retail investors who had been piling into "special treatment" stocks in the days leading up to a May 30 romp, when the CSI dropped 6.8%. Special treatment shares indicate companies which have been unprofitable for two years, have failed to provide timely reporting, or are under investigation for trading irregularities. Speculative buying this year had seen some of these stocks gain as much as 400%.
"For many people the loss [from these companies] is tremendous," says Boris Feng, an investment advisor at Standard Chartered in Shanghai who sold all his personal holdings on May 30. Feng, who did not invest in special treatment stocks, says that investors have been unable to unload their shares in such companies because there are no buyers. They can only watch helplessly from the sidelines.
But the selling frenzy of these speculative stocks has also spilled over into blue chip companies. The country's largest electricity provider Huaneng Power International and flag carrier Air China both fell by the 10% daily limit. China Vanke, China's largest property developer, also reached the maximum daily decline.
Bottom-picking is difficult. "There could be downside of 20% to 30%, but the government isn't out there to engineer a crash," says Jing Ulrich, chairman of China equities at JP Morgan (JPM). With the country gearing up for the autumn's all-important Communist Party Congress (held every five years) and the Beijing 2008 Olympics, the last thing the government wants is millions of broke investors taking to the streets.
The current selling panic was triggered by a government move last week to triple the stamp duty on stock transactions from 0.1% to 0.3%. That sent a signal to investors that the government is serious about cooling the overheated market. But it is unclear what other measures it might take. Ulrich says a capital gains tax on equity trading would be far too complex and costly to implement.
However if the selling momentum that has built up in recent days is any indication, the government may only need to sit idly by and watch the bubble deflate on its own.