SHANGHAI China has slapped restrictions on the number of new stock index futures positions that Everbright Securities can build after a glitch in the brokerage's systems caused a brief spike in the country's stock indexes last week.
Reuters calculations show the surge created and then wiped out roughly $100 billion worth of share value on the CSI300 Index, which tracks the largest listed firms in China, in the course of a single day.
The malfunction in Everbright's internal propriety trading system comes at a time when China is trying to revive investor confidence in its sagging stock markets. This does not bode well for corporates looking to raise funds through share sales.
Many Chinese firms are under increasing funding pressure as economic growth indicators in China show signs of stuttering. But Beijing is uncomfortable with loading up the banking system with more risky loans - or with pushing such firms into the country's so-called shadow banking system where non-bank lenders price credit at far higher levels.
The China Securities Regulatory Commission (CSRC) said it would launch a formal investigation into Everbright. While there was no indication that the systems glitch involved other brokerages, the state media is saying the trading fluke is symptomatic of broader market ills.
The official China Securities Journal said on Monday that the malfunction has exposed major flaws in how Chinese stock exchanges are run, alleging that there are defects in bourses' warning mechanisms.
The glitch on Friday caused Everbright's system to send out a spate of buy orders that lifted the Shanghai Composite Index and the CSI300 Index by 5.6 percent and 4.4 percent, respectively. The indexes later fell back into negative territory for the day.
The Shanghai Composite was down 0.2 percent as of 0400 GMT (12:00 a.m. EDT) on Monday, while the CSI300 was 0.28 percent lower.
"It is unclear how strong the impact of the Everbright Securities trading error will be on wider market sentiment," said an analyst at Cinda Securities Co Ltd, who spoke anonymously as he is not authorized to talk to the press.
"From today's stock performance, we can see that there hasn't been a large fall in share prices in the market. If it is a one-off accident, then it won't have an impact. But if the results from the investigation result in new stricter regulatory measures, then this may have more of an impact."
He also said it was unclear whether the development would impact plans to restart initial public offerings (IPOs) later this year, or the proposed launch of a government futures trading market, once said to be scheduled for August.
Since late last year, China has halted all IPO approvals as it rewrites listing rules to improve transparency as part of efforts to boost the sagging market. But regulators have come under pressure from companies to allow new listings to resume, having already given way and permitted a few select firms to conduct secondary issuances.
The decision has not been welcomed by Chinese investors, who have long advocated for a freeze on both IPOs and reissuances, arguing that they only serve to dilute valuations and further diminish confidence.
Everbright Securities said on Friday it placed unintended buy orders totaling 23.4 billion yuan ($3.83 billion), of which 7.27 billion yuan was actually traded.
Because of a T+1 system in China's stock market, the brokerage could not sell shares it bought on the same day, which forced it to build huge short positions in the index futures market, totaling 7,130 lots, the brokerage had said.
The China Financial Futures Exchange (CFFEX) on Sunday imposed restrictions on Everbright Securities, limiting its ability to establish fresh stock index futures.
Many persons claiming to be Everbright clients have complained online that while Everbright's trading mistake would come at their expense, the profits booked off the short hedging would not be redistributed fairly.
Everbright said on Monday that any profits yielded from the massive index short positions it erected on Friday to offset the impact of its accidental purchases would be dealt with legally.
Everbright also said Shanghai securities authorities have informed them that the brokerage's proprietary stocks trading in the spot market has been suspended for three months until November 18.
Trading in the yuan-denominated shares of China's fifth-biggest brokerage has been halted since Friday afternoon on the discovery of the trading error.
"The exchange has agreed that trading in our company's share to resume on Tuesday," Everbright said.
The brokerage's A-shares changed hands at 12.12 yuan each at midday on Friday, up 6.69 percent in line with the market spike, before trading was suspended.
The news also impacted the performance of Hong Kong-listed China Everbright Ltd (CEL), which is owned by the same parent company China Everbright Group and holds around 33 percent of Everbright Securities. Shares in CEL were down more than 6 percent on Monday morning.
Whether the Everbright incident dents existing investor confidence levels or not, it is unlikely to reinvigorate Chinese interest in equities as an asset class, give their historically poor performance compared to other kinds of investments.
This is a problem for the government because Beijing is keen to wean domestic investors off overdependence on other investments such as real estate and high-yielding wealth management products (WMPs).
Many investors prefer WMPs sold by Chinese banks because they believe they are subject to an implicit guarantee by the government. The Chinese government has never allowed a corporate debt default, consistently moving to buy out bond investors in troubled companies, but the same is not true of equities.
"When you look at the (WMPs), they sold so well because people believed they would never fail," said Yuan Ding, head of the finance and accounting department at the China Europe International Business School (CEIBS) in Shanghai.
"The only place in China people have learned anything about risk is in the equity market."
($1 = 6.1150 Chinese yuan)
(Additional reporting by Kazunori Takada and the Shanghai Newsroom, and Vikram Subhedar in HONG KONG; Editing by Ryan Woo)