China’s Stubborn Short Sellers Take on World’s Best Rally

The world-beating rebound in Chinese equities is failing to scare off short sellers.

The Hang Seng China Enterprises Index, which led declines among global equity gauges this year through March 20, has since rebounded 7.3 percent through yesterday for the world’s biggest gain. Traders who piled on bets against the iShares China Large-Cap exchange-traded fund during the rout have maintained those wagers even as stocks jumped. Short interest hit a record 29 percent of shares outstanding on March 24 before slipping back on March 26 to match its level before stocks began rallying, Markit data show.

Chinese equities recovered after valuations fell to the lowest level in 12 years, the government said it will accelerate construction projects and regulators eased funding restrictions for financial companies. Those steps may not be enough to allay investor concern that earnings will slow as the economy weakens and defaults increase, according to UBS AG. About 60 percent of Hang Seng China index companies tracked by Bloomberg have posted fourth-quarter results that trailed analyst estimates.

“Without any big move on reforms in China, the rebound cannot be sustained,” Lu Wenjie, a Shanghai-based equity strategist at UBS, said by phone yesterday. “The worries about China’s economy are still there and haven’t been dissipated yet. Short sellers won’t easily abandon their position or views before these factors fade away.”

Most Shorted

Short interest in Anhui Conch Cement Co., China’s biggest cement producer by market value, climbed to 25 percent of shares outstanding as of March 25, within 1 percentage point of a record and the highest level in the Hang Seng China measure, Markit data shows. The stock has rallied 9.1 percent since March 20 through yesterday and is up 19 percent in the past two weeks, the second-best gain in the index.

Yang Kaifa, the company’s board secretary, didn’t answer calls and an e-mail message sent after business hours yesterday.

The Hang Seng China index of mainland companies listed in Hong Kong rose 1.3 percent at 9:56 a.m. today, while Anhui Conch climbed 2.8 percent. The Bloomberg Index of the most-traded Chinese stocks in the U.S. gained 0.5 percent to 97.68 yesterday. The iShares China ETF, the largest U.S.-based exchange-traded fund investing in Chinese equities, added 0.7 percent to $35.10, a three-week high.

Not all investors are betting on a decline. Short interest in China Minsheng Banking Corp., the nation’s first privately owned lender, fell to 10 percent on March 25 from 21 percent in July. The shares have gained 6.5 percent in the past week through yesterday, paring the loss this year to 10 percent.

‘Market Disruption’

Morgan Stanley said in a report this week that it’s sticking to its buy recommendation on Chinese stocks, adding that concern there’ll be a “significant market disruption” in the world’s second-largest economy is overstated.

The economy’s slowdown and rising debt levels pushed the Hang Seng China gauge into a bear market on March 20. The decline sent valuations to 6.82 times earnings on that day, the lowest level since December 2001.

China will “accelerate preliminary work and construction on key investment projects,” the State Council, or cabinet, said in a statement on March 19. The nation’s Securities Regulatory Commission issued rules for a trial program March 21, allowing companies to sell preferred stock if they are included in the Shanghai Stock Exchange 50 A-Share Index, expanding financing options for the banks as they seek to address tougher capital requirements.

‘Good Strategy’

China Coal Energy Co.’s short interest rose to a record 16 percent on Feb. 17 and was at 15 percent on March 25, up from 1 percent a year ago. Weichai Power Co., a maker of heavy-duty diesel engines, had short interest of 12.5 percent on March 25, the highest in a year and up from 4.7 percent in July.

Short interest in Yanzhou Coal Mining Co., the country’s fourth-largest coal producer, has slumped from 19 percent in September to 14 percent. Shares have rallied 11 percent in the past week through yesterday, the second-biggest gain on the H-share gauge, and trimming their 2014 loss to 17 percent.

“If there are no further policies from the government, growth will continue to slow and the stock market will fall,” Dai Ming, a money manager at Hengsheng Hongding Asset Management Co. in Shanghai, which oversees about $193 million, said by phone yesterday. “The rally may be short-lived and short selling is still a good strategy.”