21 October 2016
Hong Kong's stock market has suffered a double whammy due to A-share rout in China and concerns over the Greece situation. Photo: Reuters
Hong Kong's stock market has suffered a double whammy due to A-share rout in China and concerns over the Greece situation. Photo: Reuters

Managing risk in volatile markets

On June 12, the Shanghai Composite Index hit 5,178 points, and the Shenzhen Composite Index surged to 3,156 points, with both the benchmarks reaching their highest levels since 2009. Earlier, Hong Kong’s Hang Seng Index hit a year-to-date high at 28,588 points on April 27.

Now, the Hang Seng Index has come off about 15 percent from its 2015 high, closing below the 24,000 points level on Wednesday following a major selloff.

Meanwhile, the Shanghai market has slumped 30 percent while Shenzhen plunged by 41 percent from the recent highs. But compared to the January 2 levels, the Shanghai market is still up about 10 percent while Shenzhen has a gain of more than 30 percent.

A-shares have started to fall since mid-June. The Chinese government has constantly changed the stance against margin trading and short-selling activities. And the central bank has cut interest rates and reserve requirement ratios on June 27. Everything was on track and nobody felt any sign of a market crisis.

But now, more than half of the 2,700 listed companies in Shanghai and Shenzhen have sought trading suspension to shelter themselves from a market rout even as Beijing was unveiling some supportive steps.

A number of restrictive measures on selling activities have distorted the market operation and damaged liquidity. Investors are not afraid of losing money; instead, they hate to become victim of one-sided market intervention.

The market meltdown has come at a much faster pace than most have expected. Investors were unprepared, which led to panic selling. And the Greek situation has also weighed on sentiment.

The China market meltdown and the Greece concerns, meanwhile, meant that the Hong Kong market had to suffer a double whammy.

Investors have to manage risk with discipline. Those resorting to margin trading would have suffered huge losses amid the recent selloff. Temptation should be avoided to put in more cash to support margin trading amid a falling market.

The best strategy is to reduce holdings and increase liquidity in order to prepare for the worst situation or to capture potential buying opportunities down the road.

The market shake-up has proved that stocks without fundamental support would suffer the most during a correction, as we’ve seen in the case of small-caps, brokerages and Internet plus-plays.

These stocks usually have P/E ratios in high double digits or even more than a hundred. Some big investors have borrowed money to speculate on these stocks, which may struggle to find liquidity as margin financing has come apart.

There is also talk that some major shareholders have used their holdings as collateral to bet on the stock market, which may have been one reason why more than half of 2,700 listed companies have applied for trading suspension. 

As for the prospects going forward, index heavyweights, bluechips and stocks with strong earnings support are likely to rebound first after falling along with the broad market recently.

Private-equity and mutual funds will also focus on fundamentally sound firms. In this scenario, retail investors should adjust their portfolios and get rid of stocks without fundamental support.

The market has witnessed dramatic ups and downs in recent weeks. But it’s not the end of the world. Investors should take a long-term view, rather than focus too much on gains or losses in the short term.

This article appeared in the Hong Kong Economic Journal on July 9.

Translation by Julie Zhu

[Chinese version 中文版]

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head of private banking and trust services at Hang Seng Bank

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