Margin trading ready at last
March 11, 2010 | BY
clpstaff &clp articles &For years, mainland China has been preparing for margin trading and short sale of securities. With the securities regulator's promulgation of a new guiding opinion, those preparations appear finally to be complete
The system of margin financing and short sale of securities stems from United States and plays a role in discovering and stabilising the price in a securities market. Under a perfect market system, overwhelming stock jobbing and gambling in the market causes the price of a stock to increase greatly; investors may sell the stocks, by securities financing, to make the price fall. Otherwise, when the price of a certain stock is underestimated, investors may buy the stock, by borrowing margins, to make the price rise. On the other hand, margin financing and short sale of securities is a positive way of boosting an active market, to utilise and enhance the existing capital in the market, and to enlarge the trade volume and strengthen liquidity to improve the investment function of the securities market. Until now, mainland China's capital markets have lacked a shorting-mechanism.
The amended PRC Securities Law (中华人民共和国証券法 (修订)), which came into force on January 1 2006, allows securities companies to engage in margin financing and short sale of securities. After the new Securities Law became effective, the China Securities Regulatory Commission (CSRC) gradually set up the system, by issuing the Administration of Pilot Project for Securities Companies' Engaging in the Margin Financing and Short Sale of Securities and the Guide on the Internal Control on the Pilot Project for Securities Companies' Engaging in the Margin Financing and Short Sale of Securities (both effective on August 1 2006). The Shanghai Stock Exchange and Shenzhen Stock Exchange also issued their own implementing rules accordingly. Upon the consent of the central government in January 2010, the CSRC immediately promulgated the Guiding Opinion on Pilot Engagement in Margin Trading and Short Sale of Securities by Securities Companies (关于开展证券公司融资融券业务试点工作的指导意见). This marks the beginning of margin trading and short sale of securities.
Other than specific practice rules on margin financing and short sale of securities, the Guiding Opinion provides requirements and qualifications for the securities companies which first apply for engaging in these practices. Such requirements include, but are not limited to: (i) the net capital of the applicant securities company shall have been more than Rmb5 billion (US$732.5 million) over the last six months; and (ii) the securities company must be evaluated as a Grade A Securities Company at last evaluation. It is obvious that securities companies which are qualified to engage in margin financing and short sale of securities will benefit greatly from such business – both from commissions and interest generated.
Pilot participation
At present, the securities companies meeting the requirements are busy preparing for the application in order to obtain the qualification. The media reports that the officers of 11 securities companies participating in internet testing gathered in Beijing and submitted their plans for review with the relevant CSRC department. It is predicted that the first qualified pilot securities companies will be decided at the end of March 2010.
The service provided by securities companies with regard to margin financing and short sale of securities will be a double-edged sword for investors. It will be able to enlarge both their gains and losses. According to the implementing rules issued by the Shanghai and Shenzhen Stock Exchanges in 2006, the deposit rate shall be no less than 50% when the investor purchases the securities. But at the pilot stage, the deposit rate will be higher. Qualified securities companies under the supervision of the relevant authority will increase the minimum deposit rate from 50% to 60%, or even 70%. When the investor provides securities as a deposit, such securities will be discounted for the reason that the price fluctuates from time to time. Furthermore, according to the Stock Exchanges' implementing rules, the mortgage rate of the investor shall not be less than 130%. If the rate is lower, the member will notify the investor to provide more mortgage within an agreed time. After more mortgage is provided, such rate shall not be less than 150%.
In a word, the adoption of the system of margin financing and short sale of securities will remedy the defect that the domestic capital market lacks a shorting-mechanism, and is good for the health and stability of the stock market. Meanwhile, the CSRC, Shanghai Stock Exchange and Shenzhen Stock Exchange will strictly regulate investor qualifications, deposit rate and so forth, in order to reduce risks arising from these activities.
Fang Litang, partner, Deheng Law Firm
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