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The China Series - Benkaiser.NET Investment Portal

The China Series - Part 4 : What is in for the future?

December 3rd 2006 01:51
An Overview of China's Stock Market

Part 4 - What is in for the future?


Introduction
Part 1
Part 2
Part 3

The accession of China into the WTO since 2001 has brought increasing focus into China’s stock market especially the Yuan-dominated A-shares market. The foreign funds are eyeing the market with potential ride of profitability. The introduction of the selected entry of foreign funds under the scheme of Qualified Foreign Institutional Investors had brought in some serious contenders such as UBS, Nomura, Citigroup and Bill Gates’ charity foundation. So far, 22 overseas institutions have been granted quotas worth a total of about US$ 2.8 billion (Anderlini, 2004) This does not include funds from Hong Kong that were given preferential treatment under the Closer Economic Partnership Agreement .


The optimism by foreign funds is there despite the current mess of China’s stock market. The reforms diligently undertaken by the Chinese government and CSRC add another boost of confidence of better things to come. The reforms, like its economic reforms, is expected to take time as Stephen Green, head of Asia program at the international affairs institute in Chatham House, London, said “The best scenario would probably be if the government could just carry on privatizing these (listed) companies in a slow and steady way. After 10 years, when these (listed) companies are private and better run, selling the shares in the open market would be much easier.”


The Chinese government already recognized the problems and launched the reforms in 2004 known as the “Nine Points Plan”, which includes new rules on company-shareholder communication stipulating majority shareholder approval must be sought for decisions that might have “significant effects” on shares. (Anderlini, 2004)

As such, there is good reason to believe that further improvements to China’s stock market will enhance the functions of the equity markets which would, in the long run, become a market worth investing in given that the Chinese authorities become more interested in the quality of regulation and enforcement of the listed companies.

Conclusion

So far the articles have briefly introduced the history and development of China’s stock market but the main objective is to understand the current situation the Chinese stock market faces with many present and upcoming challenges. The rise of China’s economy as global economic powerhouse will naturally increase focus to include the capital markets as well, as the stock market is a very important apparatus for companies to raise capital, facilitate investments and as an efficient capital allocating tool.

The initial objectives of China’s stock market was just another new tool to help the ailing state firms but as economic liberalization continued, the aims were slowly shifted to become more of a conventional “internationally accepted” stock market model. The shifts will be aided by the reform commitments the Chinese government place on its stock market and it is widely believed that the problems will be solved and would eventually transform the market worthwhile of full international attention like its economy currently commands.


References

2005, ‘China’s SRC to attack share structure problem’, Asia Times, Asia Pulse/XIC, < http://www.atimes.com/atimes/China/GE03Ad06.html>

Anderlini, J., 2004, ‘The stock market a casino for communists’, Asia Times, < http://www.atimes.com/atimes/China/FJ09Ad05.html>

Chen Gongmeng, C. Firth, and O. Riu,, 2002 ‘Have China’s enterprise reforms led to improved efficiency and profitability?’ Hong Kong: Dept, of Accounting, Hong Kong Polytechnic University

Green, S. and A. Black, 2003, ‘A market in control: non-tradable shares deals in companies listed at the Shenzhen stock exchange’, Asia Programme Working Paper, No.11, The Royal Institute of International Affairs.

Green, S. and He Ming, 2004, ‘China’s stock market: Out of the valley in 2004’, Briefing Paper, No.1, The Royal Institute of International Affairs.

Green, S., 2003, ‘Better than a casino: Some good news from the frontline of China’s capital market reforms’, Asia Programme Working Paper, No.6, The Royal Institute of International Affairs, Asia Programme, Cambridge University.

Green, S., 2003, ‘China’s stock market: Eight myths and some reasons to be optimistic, A Report from the China Project’, The Royal Institute of International Affairs, Asia Programme, Cambridge University.

Green, S., 2003, ‘Two thirds privatization: How China’s listed companies are finally privatizing’, Chatham House Briefing Note, The Royal Institute of International Affairs, Asia Programme, Cambridge University.

Green, S., 2004, ‘Equity politics and market institutions: The development of stock exchange governance in China, 1984-2003’, Asian Programme Working Paper, No. 12, The Royal Institute of International Affairs.

Gu, G., Z., 2005, ‘China’s stock market reforms’, Asia Times, < http://www.atimes.com/atimes/China/GE24Ad03.html>

Huang, S., and F. Song, 2002 ‘Can a capitalist equity market help the reform of Chinese state owned enterprises?’, University of Hong Kong

Ma, S, 2004, ‘The Efficiency of China’s Stock Market’, The Chinese Economy Series, Ashgate Publishing Limited, England
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The China Series - Part 3 : Performance and Efficiency

November 28th 2006 08:56
An Overview of China's Stock Market

Part 3 - Performance and Efficiency

Introduction
Part 1
Part 2


The split share structure reforms launched by the CSRC was predicted to cause the market to fall drastically as the non-tradable shares would be allowed to float freely depressing the market value as a result. (Gu, 2005) The anticipated outcome would probably be another blip in the Chinese stock market time series as over the years the performance of the stock market is at best been a wild roller-coaster ride. Revisiting the aim of the Chinese stock market which was to facilitate the improvement process of the restructured SOEs, with separation of ownership and management, and help to raise capital as well, has not yet been proven a success. In fact various studies have shown otherwise. Performance in terms of profitability, efficiency and sales has been proven to deteriorate after listing. (Chen et al. 2002) Even listings in overseas bourses, a privilege enjoy by the premier SOEs have failed to impact positively on performance (Huang and Song, 2002) The objective of setting up the stock market is clearly a defeated cause and in fact evolved into a casino of sorts.

Further intensive research into the efficiency of the Chinese stock market in terms of efficient market hypothesis (EMH) produced outcomes, just like the current state of its market, ambiguous with no clear distinction where the market performance, in terms of efficiency, lays.

The EMH implies that generally it is not possible to outperform the market as the prices of the securities reflect all the relevant information out there with the exception of luck or insider information being used to obtain abnormal or excess profits. This is known as informational efficiency. EMH can be classified into weak-form, semi-strong and strong. Weak-form EMH implies that prices reflect all historical returns data, semi-strong EMH reflects all publicly known information and lastly, the strong-form EMH suggest that prices reflect all public and private information and therefore excess returns can not be earned. Before answering the question of where does the Chinese stock market belongs in terms of market efficiency, first the answer must be sought for what role does market efficiency plays for the overall economy?

According to Shiguang Ma (2004), who did a comprehensive research on the Chinese stock market efficiency, “…it has been frequently documented in the financial literature that an inefficient market cannot benefit the economy as much as an efficient market. Therefore, market efficiency is the centerpiece of financial studies.”

The research by Ma concluded that the China’s stocks prices reflect information inefficiently. It is possible to obtain abnormally high returns by using historical and public information. As such, China’s stock market is neither weak-form nor semi-strong form efficient. The cause for the inefficiency is market segmentation due to inaccessibility. The split shares structure is another reason as shares segmented by trading abilities inevitably distorts the transmission and interpretation of information. Lastly, government intervention is seen as another cause as intervention leads to distortion of prices which ultimately influence the efficient allocation of resources.

From casual observation or at the ground level, the distortion of the market can be clearly seen by the actions of individual investors. Individual investors are observed to speculate shares based on rumors and not record fundamentals, a practice widely known as “stir-frying stocks”. As such, China’s stock market is generally seen as being dominated by small time and short term individual “speculators” instead of being investors. However such view needs further scrutiny as it was found out that many of the so-called individual accounts were in fact proxies for wealthy individuals and institutional investors to manipulate share prices through a complex scheme (Green, 2003) Therefore, individuals are not the main culprit for high volatility of stock prices or high turnover rates, as often assumed.

Due to existent of three different types of shares in a listed company, there are different pricing for each type and it is important to note that fair valuation should only be based on IPs or market-tradable shares and exclude restricted shares, as the remaining two-third restricted shares cannot be ascribed at market price. On the other hand, LPs are being traded regularly OTC, and are often sold to private enterprises or individuals, which bring about a new situation that the listed SOEs are not one-third but two-third privatized. (Green and Black, 2003)

Having covered China’s stock market in terms of empirical studies and ground level observation, both concluded that the market is indeed inefficient due to various reasons such as company valuation can only be done for one-third of its capitalization, massive speculation, price manipulation and government intervention.



A Chinese retail investor/speculator


Coming Up Next: Part 4 - What is in for the future and conclusion.
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The China Series - Part 2 : Regulation and Enforcement

November 27th 2006 04:23
An Overview of China's Stock Market

Part 2 - Regulation and Enforcement

Introduction
Part 1

The China Securities Regulatory Commission is the stock market regulatory body in China, equivalent to the Securities Commission in the USA or the ASIC (Australia Securities and Investment Commission) . The CSRC, is recognized as the most professional and progressive of all central government agencies (Green, 2003) Yet the reservation must be made to recognize that the commission is still ultimately controlled by the Communist Party’s Central Committee. The issues of judicial and enforcement independence come into question as whether impartiality is observed when executing the rules and regulations against fraud or misconducts.

As majority of the listed firms are restructured SOEs, ultimately they are still under the control of political circles or in other words, strongly suggest, under political protection. As the CSRC final authority being the ruling party and the listed firms under the grace of the government, over time, conflict of interests arise which therefore usually lead to cover up even though the commission have the noble objectives of ensuring fair play is observed in the market.

As mentioned in the Part 1, journalism plays a role in the set of soft infrastructure, the Chinese financial press is increasingly being observed as pushing the barrier with in-dept investigative journalism into frauds or malpractices that prompt the CSRC to launch investigation themselves. One of the prominent presses in such category is the Caijing (Economics and Finance) magazine with a series of major stories and campaigned for better regulation.

If the Chinese stock market continues its path at the present state, it will be no doubt, a time bomb waiting to explode but the myriad of problems is apparently recognized and resolving attempts are in fact underway. As of April 2005, the CSRC launched reforms to solve the separate share structure, which was recognized as the biggest problem restraining the development of its stock market. The aim of the reform is to maintain market stability and protect the legitimate interests of investors .

The reforms indicate the level of willingness and urgency to rectify regulatory and market efficiency problems as it had the approval of the National People’s Congress (Chinese parliament) in a bid to lay a sound and solid legal foundation for the securities sector.



The Shenzhen Stock Exchange

Coming Up Next: Performance and Efficiency
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The China Series - Part 1: The Fundamentals

November 26th 2006 01:54
An Overview of China's Stock Market

Part 1 - The Fundamentals
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The China Series - Introduction

November 24th 2006 03:16
For as low as $2,000 ordinary Australians can now invest in China's sharemarket through funds operated by local fund management houses, licenced by the Chinese authorities. Opening up its financial market is part of China's WTO obligation as its economy gradually shifts from its manufacturing and direct foreing investments dimension to include banking and sharemarket, allowing the world to engage the rising dragon from different economic dimensions.

But China's sharemarket is not an ordinary one that it defies conventional mechanism yet the "socialist" market economy was able to create waves of gigantic listings from New York to Hong Kong. It is truly a near run-away free wheeling capitalism in the formation. Benkaiser.NET Investment Portal presents you a series of independent articles on the overview of China's sharemarket, giving you an insight from its humble beginning, the mechanism, regulations, efficiency and its future ahead.
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