China Regulator Plans to Allow Margin Trading, Short Selling http://www.bloomberg.com/apps/news?pid=10000087&sid=aYsHlvF9bJE4&refer=top_world_news China plans to let investors buy stocks using borrowed money and sell shares they don't own, seeking to channel more of the nation's $4 trillion of bank deposits into the stock market and boost trading. The China Securities Regulatory Commission may select five brokerages to start margin financing and short-selling services this year, according to a draft plan sent to the Shanghai and Shenzhen stock exchanges and obtained by Bloomberg News. The pilot program may be expanded to other companies later, it said. The changes would generate revenue for brokerages and increase the funds available for investment as the government prepares to end a yearlong ban on public share sales, paving the way for offerings by companies including Air China Ltd. China is seeking to bring its stock market in line with global practices and sustain a recovery in benchmark indexes from eight-year lows last year. ``The move will inject blood into the stock market,'' said Qiu Zhicheng, an analyst at Haitong Securities Co. in Shanghai. ``It will alleviate concern that the market will be weighed down by listings of big companies and generate more trading commissions and interest income for brokerages.'' China halted share sales in May to avoid a flood of equity as companies pursued plans to make more than $200 billion of mostly state-owned stock tradable. The ban may be lifted this month or in May, Shanghai Stock Exchange Executive Vice President Zhou Qinye said in an interview on Jan. 17. Loans The Shanghai composite index has risen 34 percent from its July 11 low and the Shenzhen composite index has jumped 46 percent since July 18. Hong Kong-listed Air China, the nation's No. 1 airline, and Aluminium Corp. of China, the world's second- biggest alumina producer, are among companies that have said they aim to sell shares domestically once the ban is lifted. The regulator plans to set up a company, called China Securities Finance Co., by the end of this year to provide loans for brokerages to finance margin trading, the draft said. The commission also proposes to let brokerages borrow directly from banks to fund client subscriptions to initial public offerings. The changes aim to ``channel funds into the market, boost trading, generate new sources of income for brokerages, and pave the way for the introduction of more derivatives such as index futures,'' according to the draft, which was distributed to the exchanges and the China Securities Depository and Clearing Corp. at the end of March. Worst Performers The Shanghai and Shenzhen indexes were the world's worst- performing markets out of 77 major benchmarks for the four years through 2005 because the smaller, state-owned manufacturers that dominate the exchange weren't the driving force of the world's fastest-growing major economy. Regulators want to attract listings by bigger, more profitable companies such as PetroChina Co. and Bank of Communications Ltd., many of which have shares traded on Hong Kong or other overseas markets and not on the mainland. The government also wants to shore up a brokerage industry that's been hurt by falling stock prices, mismanagement and corruption scandals. China's 465 securities companies, including futures brokerages, had a combined net loss of 19.2 billion yuan ($2.4 billion) in 2004, the official China Securities Journal reported on Dec. 30. China Securities Finance will be set up with 5 billion yuan of capital from the exchanges and the clearing house and may expand by selling stakes to banks, insurers and state companies, according to the draft plan. The company may raise money through bond sales and central bank loans. Risk Control ``The purpose of setting up this company is to build a firewall between banks and brokerages, making risk control easier for the government,'' said Jiang Jianrong, an analyst at Shenyin Wanguo Securities Co. in Shanghai. China's central bank fired managers at some commercial lenders during two crackdowns on unauthorized margin trading in 1997 and 2001, when banks were found to have illegally channeled money into the stock market. The 2001 crackdown followed a 52 percent surge in the Shanghai composite index the previous year. An investor buying stock on margin pays only a percentage of the cost of the stock, with the brokerage financing the rest through a loan. Allowing short selling may mitigate the risk that margin trading will drive stock prices to unsustainable levels. A short sale is a bet that a stock's price will decline. Investors sell stock they have borrowed in anticipation they can buy it back later at a lower price and profit from the difference. China reintroduced trading in warrants -- another form of leveraged investment -- in August after a nine-year ban imposed because of excessive speculation. Three months later, trading in the first six warrants listed totaled more than the combined turnover in all 1,461 stocks traded on the Shanghai and Shenzhen exchanges. The Shanghai stock exchange suspended the warrant licenses of some members in November after a probe into price- rigging of Baoshan Iron & Steel Co. warrants. ``Financial innovation is a two-edged sword,'' said Haitong's Qiu. ``The challenge is whether regulators can control the risks, as China's market is infamous for its speculative nature.''