China's Domestic Stocks Slide, Heading for Worst Week Since 2016

(Bloomberg) -- Chinese domestic stocks took a dive on Thursday, deepening a slump that’s sent benchmarks toward their worst week since 2016, and posing a test of authorities’ tolerance for declines.

The Shenzhen Composite Index dropped 3 percent to a six-month low, while the Shanghai Composite Index lost 1 percent. Information technology and health care shares were among the hardest hit, with dozens of stocks on both exchanges down by the limit of 10 percent. Guangzhou Automobile Group Co. was among those that fell by the daily limit, hitting its lowest level since April 2016.

"Investors are spooked,” said Dai Ming, a Shanghai-based fund manager at Hengsheng Asset Management Co. “Funds might be dumping their portfolio to cut risk and raise liquidity, regardless of the selling prices, just to get out.”

The sell-off is unlikely to go much further though because the "national team," or state-backed funds, will step in should the Shanghai Composite fail to hold above 3,400 points, Dai said. The gauge ended Thursday at 3,446.98.

The country’s regulators are calling for increased monitoring of risks across financial markets, according to a statement late Wednesday.

While strategists and analysts cited a range of reasons for the slide, two common themes were concerns about tighter liquidity and disappointing earnings. Here’s what they had to say about today’s tumble:

Wang Chen (Shanghai-based partner at XuFunds Investment Management Co.)

• Some trusts and asset-management products are maturing and they can not roll over due to China’s deleveraging measures so the only solution is to dump shares. A lot of the companies that slumped today had trust products or asset management products among their top holders
• This is the case for Guangzhou Automobile and a slump in such a big name has a big impact on sentiment
• There is a concern over market liquidity, that the best times may have passed because the central bank has stopped rolling out reverse-purchases recently

Shen Zhengyang (A Shanghai-based analyst at Northeast Securities Co.)

• The ultimate reason for correction is outflows ahead of Chinese New Year amid relatively tight liquidity and strengthened regulations. It’s hard to see support in the lack of sizable continuous inflows
• People also sold today because some companies have reported disappointing earnings
• The market is also concerned about potential forced liquidation as some investors may not be able to answer margin calls, which would trigger brokers to sell the shares they have pledged. The market may want to front-run such selling

Zhang Gang (Shanghai-based strategist with Central China Securities Co.)

• The market had been pricing in positive expectations about China’s economic fundamentals and yuan appreciation, while the reality on corporate earnings disappoints as many are projected to suffer huge losses
• Regulators’ reiteration of risk prevention and clampdown on market violations has also hurt sentiment
• Some small caps dropped to levels that trigger margin calls or forced liquidation, so investors are rushing to get out before their holdings get margin calls too. That in turn, leads to more selling and it’s a vicious cycle

--With assistance from Emma Dai

To contact Bloomberg News staff for this story: Sofia Horta e Costa in Hong Kong at shortaecosta@bloomberg.net, Amanda Wang in Shanghai at twang234@bloomberg.net.

To contact the editors responsible for this story: Richard Frost at rfrost4@bloomberg.net, Philip Glamann, Teo Chian Wei

©2018 Bloomberg L.P.

With assistance from Sofia Horta e Costa, Amanda Wang