Chinese Regulator Defends Use of Circuit Breaker

The circuit breaker plays an important role in stabilising the market, and the government will work to improve the system, China Securities Regulatory Commission spokesman Deng Ge said in a statement on Tuesday.

Market forces are one thing, but with so much being thrown at the Chinese share market, it’s widely believed more iterations of the circuit breaker concept will need to be considered to prevent more extreme sell downs.

The Shanghai Composite Index opened 3% lower, oscillated into positive territory, but widened losses to 3% again, the Hang Seng China Enterprises Index fell 1.2%. By comparison, Goldman Sachs estimated this morning that this lock-up represents over 1.1 trillion yuan of stock holdings, or 5.8% of total A-share free-float market cap.

The sell orders piled up fast on Monday at Shenwan Hongyuan Group, China’s fifth-biggest brokerage by market value.

It could also further dent confidence in the China Securities Regulatory Commission and in the wider financial regulatory framework to manage increasingly complex markets even as China’s economy struggles against major headwinds. The new mechanism adds to trading restrictions that include a 10 percent limit on daily swings for individual stocks and a so-called T+1 rule preventing investors from buying and selling the same shares in a single day.

The move aims to phase out transient market-supporting measures orderly and avoid sudden impact on the stock markets due to major holders’ share selling, the CSRC said.

“We’ve been waiting for a market drop like this for a long time”, said Samuel Chien, a partner of Shanghai-based hedge fund manager BoomTrend Investment Management Co.

Yesterday’s sell-off was triggered by investors’ fear that a massive lock-up implemented last July will expire this Friday, a new circuit breaker will drain out liquidity, and a weaker yuan will expedite capital outflow, also a liquidity drain.

The experience has further rattled some retail investors – who dominate transactions on Chinese exchanges. See my earlier blog “Deutsche: China’s New Circuit Breaker Creates More Volatility“.