China’s Most Volatile Shares Will Soon Be Able to Move 20% Daily

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China’s investors are bracing for a major shakeup in the nation’s stock market, which will affect everything from risk-control systems to margin financing, share pledging and exchange-traded funds.

For the first time in decades, some shares listed in Shenzhen will be allowed to move as much as 20% either way in a single session. It’sdouble the cap that’s been in place since 1996, imposed to limit swings in the country’s then-nascent stock exchanges. More than 3,000 shares across China fell by that limit on Feb. 3, when marketsreopened after a holiday to an escalating coronavirus crisis.

The new rules will apply to the technology-focused ChiNext board, a $1 trillion market where speculative trading is rampant. Many of its biggest stocks, like Contemporary Amperex Technology Co. and Wens Foodstuffs Group Co., feature in well-followed benchmarks like the FTSE China A50 Index or the CSI 300 Index. While no date has been set for the changes, fund managers, brokerages and day traders are preparing for the potential increase in volatility.

Li Changmin at Snowball Wealth says his fund is tightening risk-control measures and setting aside cash to protect against sudden stock crashes, which can have a disastrous impact on funds’ net asset value. Everbright Securities Co., one of China’s biggest brokerages, expects the widened band will boost volume in the retail-dominated ETFs that track ChiNext stocks. Another brokerage predicts it will usher in a margin-financing boom, amplifying volatility.

“Don’t underestimate the impact of the widened daily trading limit,” said Li. “It will test risk control systems at mutual and private funds, who will have to adjust their trading strategies. We’ll undoubtedly see a spike in market volatility when the new rules are implemented.”

China last week unveiled a series ofrule changes for the ChiNext venue, including doubling daily price limits for all stocks, a streamlined process for listing applications and scrapping price caps altogether for stocks in their first five days of trading. Companies were invited to apply for IPOs on the board from Monday.

The move follows a similar approach adopted by Shanghai’s much smaller Star board when it launched last year. Previously all listed stocks in China were subject to 10% daily moves, with the exception of around first-day debuts and special-treatment stocks.

The ChiNext will also expand the daily price limit to 20% for some qualified funds, including ETFs that track its benchmark. With more than $4 billion of largely retail money tied up in ChiNext-focused ETFs and index funds, wider price fluctuations will probably attract day traders who drive most of the turnover in China’s stock market, Everbright Securities analysts wrote in a June 14 note.

Further reading
China Speeds Up IPO Reform, Widens Daily Cap for Some Stocks
China to Ease Rules on Listings for Nasdaq-Like Board This Year
Everything China Is Doing to Support Its Markets During Pandemic

Analysts at SWS Research Co. predict the first batch of IPOs under the new rules will start trading as soon as August. They estimate stock leverage is around 100 billion yuan on the ChiNext board, which they expect to increase once the wider trading band is in place.

To avoid the kind of forced selling and margin callstriggered by a stock rout in 2018, brokerages will likely roll out tougher requirements on loans backed by shares, according to Snowball Wealth’s Li.

Launched around a decade ago, Shenzhen’s ChiNext board has been one of the main listing venues for the country’s tech startups. It’s also been a breeding ground for speculative trading — the market has yet to recover from a massive leveraged bubble in 2015 that saw the ChiNext Index of the biggest 100 firms lose 55% in three months. This year, it was the only major Chinese gauge to enter a bear market.

“The relaxation of trading limits on the ChiNext shows the domestic market is evolving into a more developed and mature market,” said Liu Guangming, partner at Beijing Golden Trust Investment Management.

— With assistance by Sharon Chen, Ken Wang, and Mengchen Lu

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