Date
15 December 2017
Margin trading business has expanded in China despite a tighter regulatory regime. Photo: Reuters
Margin trading business has expanded in China despite a tighter regulatory regime. Photo: Reuters

Smart investing: Do what the Chinese govt tells you not to

Legendary stock investor Peter Lynch once proclaimed famously: “Whatever the queen is selling, buy it”.

The remarks, which refer to opportunities in recently privatized businesses, send the message that state enterprises are usually very inefficient and that privatization will considerably boost their value.

In Hong Kong, a typical example of that is the Link REIT (00823.HK).

In the mainland, actually there is another tip for investing: “Whatever the government tells you not to do, do it.”

The China Securities Regulatory Commission (CSRC) cracked down on margin trading business two weeks ago. However, the margin business has not dwindled down but even expanded. Many early birds and smart stock investors obviously know the rule quite well.

After the market close on January 16, the top securities regulator announced penalties on several leading brokerages and suspended the top three from adding new margin accounts for three months.

The crackdown led to a 7.7 percent A shares slump on Jan. 19, the first trading day after the move. However, the market rebounded swiftly on the second day and almost clawed back all the losses within two days.

As of Jan. 28, the outstanding value of margin loans used to purchase shares was at 1.134 trillion yuan, 16 billion yuan more than the level before the CSRC crackdown.

Margin trading allows investors to borrow money from brokers to buy shares, while short-selling lets investors borrow shares from brokerages to sell them. Currently, the mainland market is dominated by margin trading.

It seems quite odd that the CSRC has already ordered leading brokerages to stop adding new margin accounts, and requested them to tighten scrutiny of clients. Theoretically, that should halt flow of new money into margin trading, but the reality proved different.

The answer is simple. Those 5.8 million early bird investors with margin access, representing less than 10 percent of the nation’s total retail investors, have relied more heavily on margin trading.

Currently, the interest rate in margin lending is around 8.6 percent on the mainland, a normal level compared with 6 to 8 percent for retail margin customers in Hong Kong. However, the rate is quite attractive compared with 6 percent in interbank lending and over 7 percent mortgage rate. In some cases, individual may need to pay as much as 12 percent to borrow money.

As China’s property market has reached a plateau, margin loans have become the only way of obtain cheap financing for affluent investors who hold several million yuan in assets.

Mainland investors have been taking advantage of rent-seeking opportunities in past decade. Authorities have tried to suppress the property bubble and unveiled home-purchase restrictions and price caps. But the market bubble continued to enlarge. A similar thing was seen with regard to car purchase limit in first-tier cities, where a large number of buyers flocked into the market.

Coming back to margin trading, one can say that the risk should be manageable as the probe has rectified market practices and most of those with existing margin accounts are veteran investors.

This article appeared in the Hong Kong Economic Journal on Jan. 30. 

Translation by Julie Zhu

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JZ/MY/RC

Hong Kong Economic Journal columnist

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