Talking Points:

  • The Chinese regulator will issue rules to restrict the amount of big shareholders selling stocks soon.
  • The newly introduced circuit-breaker system is the result of over-volatile market, not the other way around.

Sina News

(China’s most important online media, similar as CNN in the US. Also, it owns a Chinese version of twitter, called Weibo, with around 200 million active usersmonthly)

- The spokesman of China Securities Regulatory Commission (CSRC) answered a few heated questions regarding the stock market before the market opened on Tuesday.

First, he refuted the rumor that after January 8, when the restriction on big shareholders reducing holding shares is removed, there will be over 1 billion shares shorted at the market. According to historical record, approximate 60% of the shares reductions that the big shareholders made were completed through transfer or trade. Only 0.7% were through selling in the secondary market. Thus, removing the restriction will not cause significant stock selling in the secondary market. More importantly, the CSRC is drafting rules to establish a disclosure system,which will require companies who want to reduce holding to disclose details. And the regulator will set limit to the proportion of shares that are allowed to sell for a certain period. Details of the rules will be released in the following few days.

Second, he disagreed with the statement that it is the newly introduced circuit-breaker system cause the market plunge yesterday. The purpose of the circuit-breaker system is to provide a cooling period for the market when it is too volatile and prevent investors' irrational decisions at the extreame market. It actually protected the investors especially the retail investors. The circuit-breaker system is new to China. As a result, it maytake time for market participants to get used to the new system.

One of the major fears at the stock market was that after the restriction on major shareholders reducing their shares is removed on January 8, those big shareholders will start to sell their shares significantly, which would lead to a larger market plunge. The restriction was introduced on July 8, 2015 as a policy tool to stable the stock market after it jumped to the lowest level since the 2008 global financial crisis. The term of the policy is six months. As a result, it is expected to expire on January 8 and thus caused some fears at the market.

From CSRC spokesman's commentary, we can know two things: A) after removing the restriction, it is less likely that big shareholders will sell their shares at the secondary market. If they want to reduce their shares, they are more likely to use other methods such as through transfer. B) even if the worst senerio happens – they sell at the secondary market, the CSRC will restrict the amount that they are allowed to sell at least for a while, until the stock market regains enough stability.

Both the Shanghai Composite Index and Shenzhen Composite Index dropped over 2% right after the opening. Yet the two indexes gradualy pulled back to above the opening after 20 minutes of trading.

The circuit-breaker system is a newly introduced system to prevent extreme market volatility. Yesterday was the first trading day after it entered into effect on January 1, 2016. It is similar as the electronic circuit system: when the system is over-heating, the circuit will be cut out. There are two threasholds for the circuit-breaker system in Chinese stock market: 5% and 7%. If the Shanghai Composite Index or Shenzhen Composite Index moves up or down by over 5%, the market will stop trading for 15 minutes. If the 5% up or down happens after 14:45 or the 7% threshold is triggered at any moment, the trading will be halted until the end of the session.

--- Written by Renee Mu, DailyFX Research Team