Chinese regulator permits margin trading and short selling - 12 February 2010
China's securities regulator, the China Securities Regulatory Commission (CSRC), has launched a pilot program for a limited number of securities firms to undertake margin trading and short selling operations. The long-awaited initiative is yet another important step in the reform and development of the PRC capital market and should help boost efficiency of the markets.
Margin trading and short selling business have been discussed for a number of years, with the promulgation of the Measures for the Administration of Pilot Margin Trading and Short Selling Business of Securities Companies (2006 Measures) by CSRC in August 2006 heralding the opening up of the market. That followed with the issue in the same year of detailed rules on short selling and margin trading by the Shanghai and Shenzhen Stock Exchanges and by China Securities Depository and Clearing Corp. Ltd. (CSDCC) and in June 2008, the State Council promulgated Regulations on the Supervision and Administration of Securities Companies which incorporated margin trading and short selling.
However, it is only now that the State Council has provided in principle approval for qualified securities firms to launch this business in China. The new rules are contained in the Guidelines on Carrying Out Margin Trading and Short Selling Business of Securities Companies on a Trial Basis (2010 Guideline) issued by the CSRC on 22 January 2010.
The use of a pilot program is commonly used in China as a way of fine tuning new arrangements and allowing the regulator an opportunity to assess any market risks. Following an assessment at the end of the trial, it is expected that participation in the program will be widened if the initial results are successful.
High entry threshold
Not all securities firms will be eligible to undertake this new business. To qualify, a qualified securities firm must:
- have net assets of at least RMB 5 billion (approx US$720 million) over the previous six months, (which is much higher than the RMB1.2 billion (approx US$170 million) net capital as set out in the 2006 Measures)
- be rated as A-class
- have a relatively high proportion of self-owned funds in their net capitals and a certain level of self-owned securities
- have a trading and settlement system in place which meets the requirements for trading and settlement with the stock exchanges and the CSDCC, and
- have passed the professional assessment by the China Securities Association (CSA).
A securities firm may submit its application to CSRC for approval. A total of 11 domestic securities firms participated in mock trading and settlement of securities with the stock exchanges and CSDCC in 2008. Reports in the local in the press note that:
- CSRC is expected to select six or seven securities firms for the pilot program, and
- qualified securities firms will be required to select their clients for margin trading and short selling business carefully based on a review of the relevant client's financial status, trading experience and risk preference. Qualified clients must have opened the securities accounts with their securities brokers for more than 18 months, with the value of total assets in their securities accounts of above RMB 500,000 (approx US$72,500) and total financial assets above RMB 1 million (approx US$145,000).
Other rules applicable to margin trading and short selling business
The 2010 Guideline focuses on the qualifications of securities firms to carry out margin trading and short selling business. Once qualified, securities firms need to refer to other implementation rules and regulations issued by the stock exchanges, CSA and CSDCC in relation to the operation of the new business. These rules include the following:
- Contract and Risk Disclosure: CSA has issued guidelines for margin trading and short selling contract and related risk disclosure statement. Qualified securities firms must incorporate those mandatory terms into the margin trading and short selling contracts with their clients
- Margin: The implementation rules issued by the stock exchanges set out the margin requirement for the margin trading and short selling. Under the implementation rules, the investors must deposit cash and/or securities in the margin account with the qualified securities firms. The value in the margin account must not be less than 50% of the initial funds and/or securities borrowed by the investors and investors will be subject to the margin calls to be made by the securities firms, and
- Settlement: CSDCC has issued implementation rules for the registration and settlement of securities under the margin trading and short selling transactions. Settlement of the securities is through the system of CSDCC and separate credit accounts/margin accounts must be opened by the securities firms for trading of the borrowed securities.
The launch of the pilot program for margin trading and short selling is expected to have an important impact on the PRC securities market. It will certainly provide more liquidity in the market as well as new business opportunities for qualified securities firms. However, it remains to be seen how fast the PRC regulators are willing to further open up this business to a wider range of institutions in the PRC and the types of securities that can be qualified for margin trading and/or short selling.
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