Chinese stocks plunge, we say buy

May 28, 2015 1:56 PM (UTC+8)

 

Buy on the dip.

Okay, we said it. It’s no secret Asia Unhedged is a bull on Chinese stocks. But with the Chinese markets up 140% over the past 12 months and 50% this year alone, hitting a seven-year high just this week, even we can see there needs to be a bit of a pull back.

And here it is.

China’s stock markets plummeted Thursday on record volume after brokers tightened the margin trading requirements for clients and the central bank drained money market liquidity.

“The brokerages are front running what the regulator wants to do,” Bernard Aw, an analyst at ING Markets in Singapore, told Reuters.

The CSI300 index plunged 6.7% and the Shanghai Composite Index sank 6.5%, their worst day since January 19 when markets fell more than 7% on an earlier crackdown on margin trading. The point declines on the indices were there worst since 2008.  The Shanghai Stock Exchange saw A share turnover hit 1.2 trillion yuan ($193.57 billion), an all-time record high.

In Hong Kong, the Hang Seng Index fell 2.2% and the China Enterprises Index lost 3.5%.

With a flagging economy, pundits have been claiming that based on economic fundamentals, the rally was unjustified. And official data shows “the surge has been accelerated by cheap credit, with the outstanding value of margin finance hitting a record 2 trillion yuan on Tuesday,” reported Reuters.

Thursday morning “at least three Chinese brokerages, including Guosen Securities, Southwest Securities and Changjiang Securities said they would tighten margin requirements,” said Reuters. Haitong Securities and GF Securities had made similar moves earlier in the week.

“Clearly, they got guidance from regulators, and this shows a change of government’s attitude toward the margin trading business,” Zhang Chen, analyst at Shanghai-based hedge fund Hongyi Investment told Reuters.

The central bank’s move to mop up excess liquidity in the interbank market was a contributory factor in the sell off, added Reuters. There was no information on how much money was drained.

It’s true that many investors were wary of the extended rally and were looking for a reason to take some profits. And a sharp decline can force many investors to sell tomorrow if they receive margin calls after the market’s close. But, bull market reverses and bear market rallies tend to be violent because the positioning is so one-sided. Investors react to anything.

But take a second and consider this, if you were a big global equities manager, checked the MSCI World index and compared Hong Kong stock performance with those in the U.S., which would you buy? This has happened before. The market has gone down on margin tightening, regulatory and other moves and then recovered. We remain bullish on China stocks.

For everyone that thought it was too late to get into the Chinese markets because they were just too expensive, well, this is your lucky day. They just went on sale.

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