China tested new system-wide circuit breakers last night. The good news is that it works. The bad news is that the switch itself may be part of the problem.
First, the new system-wide circuit breaker mechanism comes into effect when the market (the benchmark CSI 300 index) falls 5%, resulting in a 15-minute trading halt. If the market falls 7%, the market will close for the day. There is no circuit breaker in Hong Kong.
After reaching the 5% limit and reopening 15 minutes later, it took about two minutes for the market to fall 7%, leading to an eventual halt and closure of the market.
What caused the decline? The December manufacturing PMI came in at 48.2, slightly lower than expected but still contracting for the 10th month in a row, but that is unlikely to be the root cause of the problem. Additionally, non-manufacturing (services) data was strong.
Most traders pointed to the proposed repeal of insider selling of previously suspended shares, which is due to take effect this Friday. This will mainly affect small-cap stocks, most of which are listed on the Shenzhen Stock Exchange. Shenzhen’s stock market fell 8.2%, its worst day since 2007.
This may be a possible answer, but don’t ignore the presence of the circuit breaker as a factor in the fall. It was the first day of the circuit breakers and given how quickly we went from 5% to 7% (in about two minutes) there was widespread fear that the market would close before the end of the day – which is why it happened – probably a very real factor .
I bet the Chinese authorities will expand the scope. The Chinese stock market is too volatile to fall 5%.
Look at the system-wide stop used in the United States. In 2012, the US system-wide circuit breakers were revised. If the stock falls 7%, the market will pause for 15 minutes and then fall 13% by 3:25 pm ET. A similar drop after 15:25 will not stop trading.
A drop of 20% or more will result in a trading halt for the entire day, regardless of when it occurs. These system-wide circuit breakers have tripped only once in the United States, on October 27, 1997.
My bet is that China will only move closer to the US one-day trading stop if the market falls 20% (instead of 5%).
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Post time: Sep-02-2024