Skip to main content

Beware of A-Shares Being Held Hostage — Stock Index Futures Should Be Delayed.

2007/10/12 8:20:11

Writing such a title when stock index futures are already on the verge of being launched may indeed seem a bit untimely. But if untimely words happen to be correct, why shouldn't they be spoken? Therefore, the key question is: is the current timing truly appropriate for launching stock index futures? To discuss whether the launch is timely, the critical issue is whether the current spot market's maturity satisfies the basic objective requirements for launching futures. And on this point, there clearly remain many aspects worthy of further deliberation.

Though it has already been cited by many others, there is one case that must be referenced yet again — the unforgettable 1995 government bond futures tragedy. The factors behind this tragedy were numerous, but one point cannot be ignored: at the time, the circulating volume of government bond spot was too small. A few institutions acting in concert were sufficient to control the movement of the corresponding futures. As for the eventual formation of two major camps locked in a gambling standoff — that was merely the inevitable result of such control dynamics.

So for the current A-share market, its susceptibility to manipulation is analogous to the 1995 government bond market. The core issue is that super-large-cap stocks have extremely low tradable share ratios, yet this small tradable volume can control an enormously large market. The speculative returns versus risk costs are completely out of proportion. As this ID already pointed out clearly in previous articles about the "Hong Kong Stock Connect": without reasonable tradable volume, there can be no reasonable pricing. The biggest problem in China's stock market today is that the tradable share ratios of super-large-cap stocks are too low — universally failing to meet the Securities Law's minimum 10% tradable share requirement. A stock market under such conditions is inherently one that can be easily manipulated.

Once futures trading is introduced to a spot market that can be easily manipulated, such trading will inevitably lead to extreme speculative behavior. Currently, there is no spot short-selling — meaning in the spot market, you can essentially only profit by going long, and the actual tradable chips are extremely scarce. It can be stated with certainty that under such tradable volume conditions, the launch of index futures will enormously favor frenzied long-side behavior. Any short position in futures will ultimately be devoured by the frenzied short squeeze rally. With so few chips and so much capital, any short position is ultimately a death sentence. And the extreme frenzy of going long will push A-shares to uncontrollable heights in a short period, exhausting the long-term developmental vitality of A-shares, and ultimately leading to an unmanageable situation.

One viewpoint holds that once red chips and H-shares have returned en masse, the tradable volume conditions needed for stock index futures will be met. But these returns have not changed the situation of super-large-cap stocks having excessively low tradable share ratios. The recently returned China Shenhua has an A-share tradable ratio of 6.33%, while China Construction Bank has a pitiful 2.7%. I ask you — isn't this adding fuel to the fire? Super blue-chips returning with such low tradable ratios will inevitably be speculated to the stratosphere one after another. As for using the ultra-low A-share tradable ratio to control A-share movements and thereby manipulate corresponding Hong Kong-listed stocks for two-sided arbitrage — that's nothing new at all.

This ID's previous articles already pointed out that to give A-shares reasonable pricing and achieve convergence with H-shares, the simplest approach is to align the tradable volumes of super blue-chips between A-shares and H-shares. It can be stated with certainty that before the A-share tradable ratios of super blue-chips are adjusted to reasonable levels, the launch of stock index futures will always be untimely and will inevitably harbor enormous downstream risks. One cannot even rule out the possibility that A-shares become held hostage as a result, plunging subsequent regulation and supervision into an intractable predicament.

Following the most normal capital market hierarchy design, the sequence must be: first perfect the spot market, then start the futures market. Currently, A-shares are split between the Shenzhen and Shanghai markets. A spot-underlying design spanning two markets will face numerous inconveniences going forward. Originally, the most ideal approach would have been to first develop a ChiNext board. Once that market developed to a sufficient scale, the main boards would merge into the Shanghai market, while Shenzhen would become the ChiNext board. Finally, index futures would be launched based on the Shanghai market — and correspondingly, Shenzhen could also have its own ChiNext index futures.

Of course, this path has already missed its window of implementation. But that doesn't mean we should rush to launch futures prematurely and leave behind serious hidden dangers. The simplest logic: futures are a product born after the full development of the spot market. The current A-share spot market still has many imperfections. Isn't rushing to launch index futures trading a case of pulling seedlings to help them grow?

As for the argument that futures can hedge risk — it's not even worth refuting. World securities history has repeatedly proven that the greatest risks never originate from the spot market, but from highly leveraged margin trading and derivatives like futures. Whether futures can reduce spot risk is debatable, but how to guard against the risks inherent in futures themselves — that is absolutely a more thorny problem than dealing with spot market risks. And this problem faces not just all market participants, but the market's regulators even more so.

Bluntly speaking, the reason futures are so eagerly anticipated by the market right now is simply that speculative capital in the spot market sees a perfect opportunity to finally lock in speculative profits, and further sees new speculative opportunities to amplify that profit margin. Right now, regulators should instead act contrary to speculative capital's wishes — pull the rug out from under them, keep the initiative in their own hands, and perfect the market at the pace required for its healthy development, rather than being led by the nose by international speculative capital, creating a once-in-a-century opportunity for international speculators to cash out and flee.