bearish

A-Share Margin: Selloff Hits Individuals, Tech Shares HOW...... Will It End?

407 Views08 Jul 2015 03:18

SUMMARY

(7 July 2015): A week ago, the best Information Ratio in the world over the previous 52 weeks was possibly Shanghai margin debt balances at +464% in 1 year on realized volatility of 12.5%.

Last week we saw the "Bag-Holding Exercise" in full swing.

"The positioning is larger than it 'appears'. The denominator is smaller than it appears. Liquidity is actually a lot lower than it appears."

Or so it appears.

After the PBOC double rate cut surprise over the weekend before last week, the markets were super volatile. Monday (June 29) intraday swings from peak to trough, and back, and back (and so forth), when counting only swings of 2% or more, totaled almost 30%. 5-day realized vol on SHCOMP peaked at 92% on Wednesday - around where short-term vols peaked in late 2008 but remain very high.

Margin balances fell in Shanghai (-10.3%) and Shenzhen (10.6%) but balances as a percentage of market free float continued to rise. As of Friday they were at all-time highs.

The Plunge Protection Team was out in full force, all week long.

There was a LOT of jawboning by regulators and authorities, state agencies, the media, and severally morally hazardous measures were implemented during the week.
And there was significant bifurcation of performance across stocks. Those stocks with a high index weight but low float weight significantly outperformed those with a low index weight but high float weight. This indicates the Plunge Protection Team was actively buying stocks.
There were rumors spread everywhere - even by the state media, and the CSRC and CFFEX had to deny that foreigners were short-selling futures against the rules. Morgan Stanley was singled out as a culprit based on the evidence that the strategist had made negative comments about the stock. 19 accounts were suspended from futures trading for a month but there was no info on who it was.

Then over the weekend and on Monday it got worse.

There were at least a dozen news items over the weekend designed to prop up stocks on Monday when markets re-opened.
One measure was that a group of brokers announced they would buy $19.3bn of stocks. Then on Monday morning a state media source reported that the govt had asked them to be ready to buy by 11am Monday morning.
All in-works IPOs were cancelled. Fund management companies announced they would use company capital to buy their own funds. State asset management firms ordered sub-managers to not sell stocks. Brokers promised they would not sell proprietary positions until SHCOMP reached 4500.
By the end of Monday, the 6-trading-day performance post-PBOC double rate cut was as follows:
- SHCOMP -9.94% (SZCOMP -18.4%)
- SHCOMP: 68 stocks up, 936 down, 102 unch'd (almost all because of trading halts, or the index would have been down further). (SZCOMP: +78, -1403, 286 unchd).
- The biggest contributors to keeping the SHCOMP from falling more than 10% was PetroChina (+23.6% in those 6 days (and another 6% this AM)), ICBC +16.2%, and a host of other banks up 8-16%. Top performers much more diverse in SZ.
- The top 20 positive performers in index points contributed +3.5%. The top 20 negative performers contributed -2.3% to SHCOMP index performance.

CONCLUSIONS

It is very tough to draw good conclusions other than that A-share punters are likely to continue to be hurt badly in the VERY short term, and there is likely to be substantial further unwinding of margin balances.
BUT, given the sharp fall in margin balances Monday, -6.4% in Shenzhen and -7.5% in Shanghai, we are now in the true unwind phase. Large volume. Large bailing.
This is the "Just Get Me Out" phase.
It will be VERY difficult for foreigners to trade this well.
- There is almost no access to short the small caps which are going down, and it could not be done in any size anyway. It is not clear why there would need to be a V-shaped bounce in smaller caps (even if some are quite large) at the end of it.
- PetroChina is now at 2.1x book and will be supported as long as the bottom 700 stocks continue going down but doesn't look like great value.
- The big banks are perhaps a place to be long: ICBC is <1.3x book even now. ABC is <1.2x book. Minsheng As are <1.4x. And given the moral hazard thrown in front of the stock market, and the stuff thrown out to keep infra spending going, and local govt debt rolls to go, there is a stealth ever-greening of, well, everything going on. Banks are probably OK near-term from a valuation basis and there will be buying demand until the small caps start bouncing.
- The government CLEARLY wants to keep markets from going down. They can buy ETFs and index baskets, but that will not help the vast majority of punters. By count, a super-majority will have gotten very badly hurt. This will hurt government credibility with regard to stocks going forward.
TRADE #1: If anything, I think the best trade might be to sell A-share index strangles at high implied vols. The government REALLY does not want the indices to go down much further (another 7-8% fall would put CSI300 in negative territory for the year), and because the illiquid heavy weight names are very heavy, they can keep the index from falling too far even if smaller cap names fall another 25-50%. Likewise, the small caps will not bounce on huge buying interest, but they might bounce a bit, in which case the large caps can fall back, allowing for SUBSTANTIAL volatility dampening.
TRADE #2: Avoid brokers.
On an Undisturbed Market Basis, the market indices are an easy sell. There is a large crowd at the door. The government is providing subsidies to not get out, and subsidies for others to get in. But people are still losing money so they will get out. Those who MUST SELL must sell. And IPOs always were too small to matter.
But the Market is Not Undisturbed...
- Regulators jawboned and released new measures almost every day last week after the market fell. They clearly want the pain to stop, and there is clearly an increase in moral hazard.
- Then over the weekend there was a barrage of new measures and jawboning to the tune of 'There is Nothing Wrong Here, and there is Nothing Wrong To Such An Extent We Will Buy Whatever We Have To and Do Whatever We Have To Do."
- Brokers and insurers have joined the patriotic move of buying stocks, and not selling stocks. Financial entities are now investing their capital in non-financially-oriented ways.
It is too late to avoid injuring the investor base. That's done. What the authorities are doing now is trying to shorten the time between the current pain and the next time someone is willing to dip their toe in. And hoping beyond hope that they can keep some people in the market who would otherwise get out.
Leverage is a SERIOUS issue. Authorities are now in a place to understand that. What they thought was containable has turned into a rout for the average punter.
I would expect substantially DECREASED volatility 3-6 months from now, and substantially tighter rules on margin debt vs float at some point.
No matter what is done near-term, longer-term, China must create an environment where stocks are long-term savings rather than short-term punting instruments.