Sell-off in Chinese equities hits China A-Share ETFs

Jul 8th, 2015 | By | Category: Equities

China equity exchange-traded funds, such as the European-listed db x-trackers Harvest CSI300 Index UCITS ETF (DR), saw their values decline on Wednesday in line with sharp falls on domestic Chinese stock markets.

Chinese Central Bank responds to equity sell-off with ETF purchases

Over half the stocks trading on the Shenzhen and Shanghai exchanges have been suspended.

The benchmark CSI 300, which reflects the performance of 300 renminbi-denominated securities listed on the Shanghai and the Shenzhen stock exchanges (so-called A-Shares), fell a thumping 6.8% knocking the AUM of ETFs linked to it.

Other A-share indices such as the MSCI China A, FTSE A50 and Shanghai Composite have also witnessed hefty falls.

Heavy bouts of selling have driven Chinese equities down over 30% in the last month. The drop in share prices has seen over half the listed companies on China’s primary Shenzhen and Shanghai exchanges suspend their shares from trading and prompted the government to step in to stem further panic selling.

China’s central bank has made drastic moves to control the stock market fall, fearing that problems may bleed over into the real economy. By providing liquidity to the market, through the direct purchase of stocks and ETFs, and also through the orchestration of brokerages and fund managers to to buy stocks, the government is hoping to prop up prices and stall downward momentum in equity markets.

The biggest challenge in the Chinese market is the dominance of retail investors, many of whom have invested on margin, borrowing money from brokerages to buy stocks. Unlike most developed markets which are commanded by professional and institutional investors, a large retail presence can lead to a more dramatic herd mentality in trading. While this has driven the standout performance of the Chinese equity market over the past 18 months, it has also led to a panicked unwinding of this leverage as share prices have dropped, prompting the downward move from the seven-year highs the Shanghai Composite reached in mid-June.

According to research from investment bank North Square Blue Oak (NSBO), the margin balance of Chinese investors is down 28% from its peak; however, there is is still 1.6tn yuan outstanding. They estimate that there may also be a comparable amount of outstanding leveraged buys held in the shadow market.

In a note on the unwinding of this leverage, NSBO said: “Achieving this is no easy task. If the actual balance of margin purchases is double the official figure, as is widely speculated when considering shadow financing, then leveraged ownership still sits at over 3tn yuan, or 17% of the free float market cap. Further deleveraging will continue to pressure the market to the downside, and it remains unknown whether the government is prepared to spend the potentially trillions of yuan needed to support the market at these levels and restore retail investor confidence.”

Considering the marked fall in equity prices, however, and the long-term growth opportunities in China, this could be an appropriate time for contrarian investors to begin to think about increasing their exposure to Chinese equities. As cited by the Financial Times, both HSBC and Goldman Sachs have upgraded their expectations for the Shanghai Composite and the CSI 300 respectively.

In addition to the aforementioned DeAWM ETF, investors looking for physical exposure to China A-Shares could consider funds such as the Source CSOP FTSE China A50 ETF (CHNA LN), the Lyxor UCITS ETF CSI 300 A-Share C-USD (GBP) ETF (CSIL LN), the iShares MSCI China A UCITS ETF (CNYA LN) and the ETFS-E Fund MSCI China A GO UCITS ETF (CASH LN).

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