April 22,2010

Housing Bubble Crackdown Sparks Market Turbulence and Frantic Trading on New Stock Index Futures

By CSC staff, Shanghai

China's Stock market has suffered a "Black Monday," a 150 point, near 5% plummet on the Shanghai Composite Index, triggered by Beijing's new crackdown on the bubbling housing market. Real estate and banking sectors led the decline. Speculative players have gotten all hot about the turbulent market and are trading heavily on newly-debuted stock index futures.

 

Beijing's harsh housing-market measures the market is over-reacting to include:

a) a minimum down-payment ratio for second-home purchases raised to 50% from the current 30-40%, while the minimum interest rate is set at a 10% premium to the benchmark;

b) a State Council set 30% minimum down-payment ratio for purchases of first homes larger than 90 square meters, well up from the current 20%;

c) demands that banks should "significantly" lift down payments and interest rates for purchases of third, fourth, fifth, etc., homes;

d)and that banks should suspend applications for 3rd mortgages and for any mortgage application from homebuyers who are not able to provide proof of local residence in regions where property prices are deemed to have increased "too fast";

e) discretion vested in local governments to limit the number of houses that can be purchased within certain period of time.

 

 The State Council also asked the Ministry of Finance to "accelerate study and implementation of relevant tax policies."

 

So far, contradictory views rule on where the market is heading are increasing volatility, giving speculators in the one-week-old stock index futures an opportunity to display their prowess in betting and hedging.

 

The stock index futures, traded through the China Financial Futures Exchange, debuted on April 16, and are the first financial futures product in the mainland China. China's A-share market has been a one-way trading mechanism. There have previously been no tools to hedge downside risk in a bullish market.

 

The instrument is underlain by the CSI 300, a capitalization-weighted stock market index designed to replicate the performance of 300 stocks traded in the Shanghai and Shenzhen stock exchanges.

 

Stock index futures trading has been largely concentrated on IF1005, a contract to expire in May. On Tuesday, the volume was 136.34 trillion yuan. If other contracts (IF1006, IF1009, IF1012) are included, the trade volume was 147.62 trillion yuan, well over the trade volume of stock trading on the Shanghai Exchange, which totaled 127.23 trillion yuan on the same day.

 

While the trading volume has exploded, position value has been mainly stable. On Tuesday, only 100 million yuan entered to setup positions. The huge volume is from super-active trading activities.

 

For the first three trade days, the ratio between trade volume and position value has been 18 to 1, 27 to 1, and 32 to 1, respectively, well higher than international standards. In a mature stock index futures markets the ratio would be closer to 1 to 1. For example, on Tuesday, the ratio of trade volume to position value on the Nikkei 225 stock index futures, and on the Singapore Stock Exchange it was 0.4 to 1. On the domestic commodities futures market, for copper, the ratio was 1.2 to 1. The high ratios indicate the speculative nature of the market and that traders are making many rounds of buying and selling in a single day. Many are making arbitrage transactions in minutes.

 

So far, few institutional traders show any interest. Many traders are seasoned commodities futures speculators. Analysts say the ultra-short term trading may be to get risks under control, since traders are very sensitive to the fluctuation of prices and will quickly clear positions before huge losses and margin-call soccer.

 

A lot of domestic hot money is joining the game. In particular, Zhejiang speculators, some of whom are moving money from their housing market positions to the futures market, are trying to find a new quick money instrument.

 

The plentitude of liquidity is nicely conducive to the fledgling stock index futures market. Beijing's housing-market crackdown is forcing more speculators to sell and turn to new bets. China's housing market, estimated at 100 trillion yuan, dwarfs the stock market. Meanwhile, after the nationalization of thousands of coal mines, hundreds of billions of yuan from recently paid-off private mine owners is still looking for parking places.

 

Hot cash is also entering China with stronger expectations that Beijing is going to allow its currency appreciate sooner rather than later, and is expected to flow into China's new speculatory assets.

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