Friday, June 15, 2007

Filtering market noise in China

The inconsistent message from the Ministry of Finance about stock transaction duty tax hike caught the market by surprise and caused an almost 21% correction from its peak of 4335 on 29 May to its lowest of 3406 on 5 June to the Chinese Shanghai Composite index.

Though I’ve profited from my H-share and A-share index call warrants which I bought on 7 June, what interested me more is to see what lesson I can learn from the incident.

A recap of the chain of events:

22 May:

Market rumoured that transaction duty would be raised from 1% to 3%

23 May:

“Responsible representatives” (the exact wordings in Chinese are “有关部门负责人”) from Ministry of Finance and The State Administration of Taxation (国税总局) confirmed with a reporter of Shanghai Stock News (上海证券报) that they have not heard of such policy change. After such story was published by Shanghai Stock News, it was widely quoted by other online and print media in both China and Hong Kong.

29 May:

Ministry of Finance announced the 1% to 3% increase of transaction duty

I tried to dig out speific names of the spokespersons on 23 May. I’ve searched Baidu (the most popular search engine in
China) and Xinhuanet which is the official China News Agency web site, my effort was in vain.

Anyway, I believe the comment from the unidentified persons were unintentional. Most likely the reporter from Shanghai Stock News was unable to approach related senior officials for comment and so he/she just picked anyone reachable. Unfortunately in this incident the individuals who provided comments might not have enough knowledge of what the real government plan was.

Catch you by surprise

This 29/5 incident reminded me of another one happened in July 2005 when China announced its currency policy reform with RMB referenced to a basket of currency instead of US dollar alone.

For that incident, Premier Wen Jiabao has in fact pre-announced his plan when he told the world his intention. Back on 14th March 2005 Premier Wen has told the media that China was planning on a significant currency reform and he further added that “it might catch you by surprise” (出其不意) when being asked about the timing.

What were the differences between these two incidents?

  • One comment was made by an anonymous person while the other was made by a highly respected Chinese leader.
  • One was to cool down (not to kill) the local stock market while the other was to avoid foreign speculators to take advantage of the RMB appreciation.

So what have I learned?

  1. I will take comments from unidentified sources with a grain of salt.
  2. Any significant correction caused by rumours in China is good buying opportunity (the Feb correction was also caused by rumours of same nature). Refer to the chart below to see how quickly the two corrections were fully recovered. I maintained my long term bullish view on China.

  1. A-50 tracker ETF (2823.HK) is the best instrument I can access having the highest correlation to Shanghai index. I was using CAF as a proxy but it proved to be a failure. CAF is still having 20.9% discount to NAV while A-50 Tracker (2823.HK) has almost completely closed the gap with only 2.6% discount as of today’s closing. Why CAF is lagging? Apart from supply/demand dynamics the performance of its underlying against index is other contributor.