Category Archives: Asian economic development

Chinese stock markets

July 27, 2015 By in characteristics of their financial markets, China, emerging markets, Margin, margin trading Tags: , , , Leave a comment

After recently stabilizing and then rising by about 15%, Chinese stock markets gave up half their gains overnight, causing worry in global financial markets.

For what it’s worth, given that I don’t follow the mainland Chinese stock markets carefully, this is what I think is going on.

Three important factors:

–a government crackdown on real estate speculation has shunted tons of “hot” money into stocks

–Beijing didn’t pay much attention to direct and indirect margin trading ( indirect meaning commercial loans collateralized by stocks bought with loan proceeds, which avoid the letter of the law), thereby allowing speculators to leverage themselves very highly

–stock market rules set limits on the daily movement in individual stocks to + / – 10%.  The way this works is that the exchange attempts to set an opening price at the start of the day.   Let’s say yesterday’s close was 100.  The exchange sees there are sellers at 100 but no buyers.  So it waits a little while and then moves the proposed opening to 99.50. Again sellers but no buyers.  So it moves the proposed opening to 99.  Same thing.  So the proposed opening price continues to ratchet down either until buyers emerge or the proposed price reaches 90.  In the latter case, the price remains at 90 until either buyers appear or the trading day closes.  The same process happens the following day.  (Of course, there might be overwhelming upward pressure as well, in which case the price ratchets up without trade, or stocks might trade–as appears was the case overnight–for part of the day before reaching the daily limit price.)

snowballing downward pressure

A big problem with the daily limit system is that in times of stress often no selling gets done.  For speculators who get margin calls, this means that each day the amount they owe their broker rises (as the market falls) and they can’t take any action to stop the bleeding.  So a horrible sense of panic comes into the market.

The resulting downward spiral is what Beijing was trying to fix when it initiated extraordinary market stabilization measures a short while ago.

The first step in recovery is to stop the market decline.

The second–which is where we are now, I think–is to begin to unwind the enormous margin position that Beijing inadvertently allowed to develop.  The only way to do this is to gradually withdraw the official props under the market, not enough to have the market freeze up again but enough to allow selling to happen.  My guess is that this is what is starting to go on now.  The keys to watch are volume figures and the total value of transactions–the higher, the better.  Unfortunately, I can’t volume figures for today’s trade anywhere.

effects?

In my experience, most emerging stock markets have problems like this in their early days.  Once the crisis is over, authorities usually pay better attention to margin debt.  Invariably, they effectively dismantle the daily limit rule.

Typically, stock market problems have no overall negative effects on the economy.

In the short term, however, margin or redemption selling can create perverse market signals.  Forced sellers liquidate what they can, not necessarily what they want to.  This means, for example, that Hong Kong stocks can come under pressure.  It also suggests that smaller, low-quality stocks may outperform blue chips–the former will be suspended while the latter go down.

This can be a real disaster for margin speculators, who may be left with an account that technically has equity in it but is filled with unsalable junk.  On the other hand, the forced nature of a margin-related selloff can give new entrants a chance to buy high-quality stocks at distressed prices.

One seemingly odd sign that the worst is over will be a collapse in smaller stocks as larger ones are beginning to rise again.  This means that buyer interest is returning to the smaller ones and they’ve resumed trading, which is a much better state than they’re in today.

Another, perhaps lagging, indicator that the worst is over would be Beijing ending the daily trading limit rule.

How long will the cleansing process take?

I don’t know enough detail to have an educated guess.  A couple of months would be my initial estimate.

 

 

 

Toshiba and the Japanese business establishment

July 22, 2015 By in Abenomics, Asian economic development, Japanese development Tags: , , , , , 2 Comments

First there was the Fukushima Dai-ichi nuclear disaster, where nuclear power plants were installed incorrectly and both the utility and government regulators falsified inspection reports to cover this up.

Then there was Olympus Optical, whose tip management lost billions in stock market speculation because it was unwilling to restructure loss-making operations and covered up the fact for over a decade by fabricating its financial statements.

Now there’s Toshiba, which falsified results for years, under pressure from unrealistic profit goals set by a series of CEOs  (shades of Jack Welsh at GE).

 

Not that surprising, in my view, given the Japanese corporate world’s widespread adherence to a samurai-like code of absolute, unquestioning obedience to instructions given by older/more senior managers in one’s company.  After all, many of these enterprises have their origin in samurai cast adrift as regional warlords were marginalized during the early shogun days.

This mindset is also a reason why a lot of Japanese business is still stuck in the 1980s–that the world is changing at a fast clip, but you pretty much have to have white hair before anyone will listen to what you have to say.  To be clear, I don’t think this samurai-ness is a universal attitude in Japan as a whole.  Unfortunately,it thrives in the Tokyo/Osaka-based, export-oriented industrial sector which is the primarily beneficiary of the deep depreciation of the yen engineered by PM Abe.

Why don’t out-of-date sixty- and seventy-somethings just retire and let a younger generation take the reins?

For one thing, speaking as a sixty-something myself, it’s hard to go from being king of the world to being just another nameless retiree.

I think, however,that there may also be a deeper, more damaging reason than the ego problems of the people in charge:

One of the first companies I followed as an analyst was a small copier manufacturer/distributor.  The firm was in enough financial trouble that it bought breathing room by selling a large chunk of its plant and equipment and leasing it back from a bank.  That netted $50 million or so in cash.

Soon afterward, Carl Icahn bought  5%-10% of the company’s stock and threatened to make a hostile bid for the rest.  The firm quickly bought back Icahn’s shares for, as I recall, about a 30% premium.  I was shocked.  I didn’t get it at all.

Only when the firm subsequently went into Chapter 11 did I learn the CEO, a former accountant, had been fiddling with the books for years.  That fact was the real leverage Icahn had over his target, whether he knew it or not.  The CEO couldn’t let an outsider in, because the accounting shenanigans would be discovered and he would be disgraced.

I don’t know, but I suspect–because I’ve seen the same pattern in numerous smaller firms in Japan that Olympus and Toshiba are only the tip of the iceberg in Tokyo.  If I’m correct, Abenomics is even more problematic than I’ve been writing.

 

 

 

 

 

 

Samsung and Elliott Associates

July 20, 2015 By in Asian economic development, Current Market Thoughts, family owned companies, Korea Tags: , , , , , , 1 Comment

I’m not an expert on Korea.  In fact, I think of Korea in much the way I think of India or Indonesia–or Japan or Italy, for that matter.  They’re all places where very powerful family controlled industrial groups have enormous economic and political power.  As a result, the rules of the stock market game are very different from those that prevail, say, in the United States.  Piecing them together can take an enormous amount of time and effort.  I’ve believe that, except in the case of Japan in the 1980s, the reward for mastering these markets would never be large enough to justify the effort involved.

In the case of Korea, government policy, both formally and informally, is heavily tilted in favor of a set of family controlled industrial conglomerates called chaebols (much like the zaibatsu/keiretsu of Japan).  In my view, these are not American-style corporations.  They care little for profit growth/maximization or for the welfare of ordinary shareholders–Korean or foreign.  I’ve found the laws and regulations that govern them to be bewilderingly complex and their financial statements (admittedly I haven’t read one carefully in well over a decade) unreliable.

Recently, Samsung, a major chaebol, decided that one affiliate, Cheil, would buy another, Samsung C&T, at what appears to be a bargain basement price. US activist investor, Elliott Associates, then bought a bunch of Samsung C&T stock and challenged the takeover.  Its objective was presumably either to have its stake bought out at a higher price by some other Samsung company or to compel Cheil to raise the acquisition price for everyone.

My initial reaction on reading this was that Elliott was fooled by superficial similarities with the US and didn’t understand the deeper political and cultural barriers it would face in Korea.  That has, so far, proved to be the case.  Shareholders have voted in favor of the acquisition as originally proposed.  Elliott is apparently continuing to sue to try to prevent/reverse this outcome.

The situation is a little more interesting than I’d thought, though, and bears watching:

–the Elliott effort to have Samsung C&T shareholders reject the takeover failed by only 3% of the shares voted.  This is a surprisingly small amount, in my opinion.  On the other hand,

–the deciding vote in favor was cast by the government-connected National Pension Fund, which ironically has previously been a critic of chaebol behavior.

My guess is that it’s ultimately Elliott’s foreignness that swayed the voting, particularly at the NPS.  Were a Korean equivalent to attempt the same thing, the outcome might have been different.  If so, there may be hope for investors in Korea after all.  I’ll continue to be on the sidelines until there’s more tangible evidence of change, however.

 

 

 

 

three weird things that happened this week

July 10, 2015 By in China, Current Market Thoughts, emerging markets, EU financial crisis, Greece, Hong Kong, Macau, Recent Market Action, Stock Connect Tags: , , , , , , , , 4 Comments

1.  Greece  After months of vitriolic negotiations and after calling a referendum in which it successfully campaigned to have Greece vote against accepting a financial bailout from the EU/IMF, the Greek government appears today to have accepted that bailout.

2.  Chinese stocks  After plunging for a month, Chinese stocks have risen by 10% over the past two trading days.  The world is breathing a sigh of relief.  I’m not sure what’s weirder–that this happened or that foreigners believed for a short while that in a country where doing anti-social stuff can get you either a long prison term or beheading, rather than the cover of Forbes, China would be unable to achieve this outcome.  Actually, the foreign belief is way weirder.

3.  Microsoft/Nokia  Less than fifteen months after acquiring the cellphones business of Nokia, MSFT has discovered that what it bought for over $7 billion (led by mastermind Steve Ballmer) is essentially worthless and is writing off virtually the entire purchase price.  The stock went up on the news.

Which is weirder:  that the MSFT board that rubber-stamped this disaster is still intact?  …or that people are still buying Clippers season tickets?   I suppose you could argue that Nokia was the price for getting rid of Ballmer, which would imply that the behavior of Clippers fans is weirder.

the impact of daily price fluctuation limits on Chinese stock trading

July 8, 2015 By in China, emerging markets, Margin, margin trading Tags: , , , , , 3 Comments

As I’ve said in prior posts, I have no desire to buy shares on mainland China’s stock exchanges.  Hong Kong is fine enough for me.

This has led me to not pay enough attention to what may be a key feature of trading there–daily price fluctuation limits of +/ – 10% per day.  What this means in the current context is that a given stock can trade down until it has fallen by the maximum 10%.  Unless/until there are buyers at the -10% level or better, there is no more trade in the stock that day.

While this was common practice in stock markets around the world several decades ago, and is the norm in commodities trading, it is no longer the case in most stock markets.

The reason is that it prevents markets from clearing quickly in times of stress.  It tends instead to increase investor fears and to deepen stock market losses, as well as lengthen the selloff period.  I first saw this very clearly in the cases of Mexico, Spain and Thailand during the market downturn of October 1987.  All three countries had daily fluctuation limits.  After a number of days of limit-down-no-trade, Mexican authorities loosened the bands and the market began to clear.  Spain and Thailand didn’t.  Both markets suffered severe selloffs that lasted for months.

 

Press reports on China have alluded to the daily price fluctuation rule there.  But the authors haven’t a clue as to its significance; they provide no useful information about how it is impacting trading.  They do indicate that many small caps aren’t trading, but that would likely be the case whether price limits were in effect or not.  (Typically, one of the early signs of market recovery is that small caps go down.  The positive signal is that buyers–at any price–have reemerged.)

The 10% rule may be having negative effects on Chinese stock markets. The way to tell would be to examine the most liquid stocks and see if they are closing on the lows, with the last trades significantly before the market close.  Given the behavior of the overall indices and the overall trading volumes, I don’t think this is the case to a crucial degree.  But at this point I’m not curious enough to check.

Even so, it seems to me that Beijing could shorten the period of margin-selling downward pressure on the market if it were to modify or eliminate its old-fashioned daily limit rules.