July 3rd, 2015

This is nuts: China blames the shorts

Now that the Chinese are experiencing a market crash--sorry, correction--that we all expected, they are blaming short-sellers. You could have predicted that as well.

James Mackintosh:
Late on Thursday they announced an investigation into manipulation by short sellers, while the futures exchange seems to be discouraging people shorting, or betting on price falls.

In practical terms, the action failed: stocks fell again, leaving them down 12 per cent on the week and down more than a quarter from their peak three weeks ago, with extraordinary intra-day swings.

In principle, though, the action is just wrong. The reason the stock market is falling isn’t short sellers, it’s long sellers. More precisely, the hordes who’d been piling into stocks and pushing prices through the roof over the past year are selling, and that was entirely predictable (the difficult issue was when there would be a rout, not whether there would).


China’s authorities hope to avoid the 72 per cent fall they saw after their 2007 stock market bubble popped, coincidentally identical to the drop in the Nasdaq after the dotcom boom. As well as attacking short selling, they have cut rates and tried to ease the pressure on margin debt to allow yet more leverage to pile on top of what analysts say is probably already the most use of broker-supplied loans to buy stocks than ever before in recorded history. One of the barmiest rule changes was to allow brokers to accept pretty much anything from antiques to houses as collateral against loans; if the brokers were to take advantage of the rule change, customers could literally bet the house on shares going up. On top of that, on Friday the securities regulator confirmed it would slow the pace of IPOs, freeing up more cash to buy existing shares. If anyone wants to.

Ultimately the government has it in its power to turn the market round if it really wants to, since it can create unlimited money to buy shares, but so far there’s no sign that such uber-QE is under consideration.

China’s an authoritarian one-party state, so its efforts to bend the market to its will perhaps shouldn’t be a surprise. Western investors shouldn’t feel superior, though: Britain first banned short-selling in Bank of England stock just three years after the Old Lady of Threadneedle Street was set up in 1694, and short selling bans and probes have begun after plenty of the big market crashes since – including the post-Lehman collapse. It never did any good, and regulators and politicians never learnt the lesson: it’s almost never the shorts who cause the problem, but the longs who first drive prices way above reasonable levels, them rush to get out.