On July 1, when over 200 million shares of Sinopec Oilfield Service Corp. were dumped on the market and caused the share price to plummet by the maximum 10 percent in a day, Mr. Zhu, an investor in Toronto, smelled something fishy.
The pattern repeated the next day: massive selling of a state-affiliated firm (Sinopec itself is one of the largest state-owned enterprises in China), maxing out the 10 percent drop that is allowed by Chinese securities regulators. And this pattern was reversed in the week leading up to the plummet: huge volumes, driving the price way up, before a sharp peak, and the harsh crash.
The same thing happened with thousands of stocks—both small and large—in the Chinese markets beginning in late June, wiping out an unprecedented $3.5 trillion in market capitalization in weeks.
In all this, Mr. Zhu, who has been in the markets for 25 years, perceived the shadow of a conspiracy. “This dramatic collapse, in both speed and scale, when there were no major sudden external shocks—for it to be this fast and big—shows that it wasn’t the normal fluctuations of the market,” he wrote in an email. “It’s easy to see that the stocks were controlled and manipulated, and they slid down a thousand miles with complete disregard to the numerous efforts made by the government to stop the slide.”
He added: “Just who was manipulating those stocks, how it was financed, it’s all hard to say clearly. … It was evidently not for making money, nor did they even care to preserve their principal. So just what was it for?”
Whether the run-up and crash of Sinopec’s shares was a manipulated affair—Zhu provided 20 other stocks where he suspected foul play, many of them exhibiting the same exaggerated buying and selling in a short period—is difficult, if not impossible to tell.
But the idea that there is something artificial about the Chinese stock market, something political and contrived, is by now not a controversial proposition.
Looking at the same companies, Jon Carnes, a noted short seller of Chinese companies that he publicly accuses of being frauds, also believes that politics was behind their movements, albeit not the kind Zhu said.
“Where Mr. Zhu sees conspiracy and manipulation, I see failed regulation,” Carnes said, pointing to trading halts that kicked in after a 10 percent intraday price drop. “The limit, by definition, removes all liquidity and sets the stage for a panic. In a downward market, who knows what will happen tomorrow?”
Carnes concluded, “Let the markets trade freely and they will be more liquid and thus less subject to manipulation.”
Manipulation by connected political players, though, and multifarious other forms of political interference in the workings of the market, have been a feature of China’s stock markets since the beginning.
The Stock Market as Policy Tool
When the Shanghai Stock Exchange opened in late 1990, it had two goals, both political. Rein in and co-opt the private, local capital markets that had sprung up around China throughout the 1980s as entrepreneurs attempted to find scarce funding for their businesses. And secondly, bring a modicum of efficiency and modern corporate governance to the bloated state-owned sector, which represented countless billions in untapped value. Of course, officials and members of the elite were also able to cash in through nontransparent privatization of public assets.
Both goals were met—and all along, China’s stock markets have labored under a statist orientation that has not changed since: from SOE corporate restructuring throughout the 1990s, serving as a tool for recapitalizing state companies in the 2000s, and, in the last 18 months, as a way to soak up excess capital that would have otherwise been pumped into an already overheated property sector.
These same dynamics—where the stock market serves as a policy tool for the Communist Party—were in play throughout the recent stock rally, potentially in the crash itself, and even in the rescue operations that followed.
The result is that it is not a stock market in any sense that we are used to—a means for the efficient allocation of capital—but a policy tool for the Communist Party.
A State Engineered Rally
The speculative rally, which took place without any change in the fundamentals of the economy and in a climate of reduced growth, was engineered in and by Beijing.
People’s Daily, an official mouthpiece of the Communist Party, wrote in a editorial in December last year: “Over the following decades the Chinese stock market will … have ample foundation and conditions to gradually relish the fruits of the great rejuvenation of the Chinese nation —’the China Dream,'” according to a translation by China Change, a website, which tracks political trends.
“This time around, the bull market is not a ‘speculative market’ but a ‘confidence market,'” the paper continued. “The enormous dividends wrought by the deepening of China’s reform and opening will be enough to support a long-term, stable, and growing bull market.”
“The A market … has hoisted the great banner of bringing China through the middle-income trap—honor permits no turning back,” it concluded.
Countless were the editorials and exhortations from propaganda authorities, all of which sought to demonstrate to ordinary Chinese people that throwing money into the stock market was a no-lose proposition. At the height of the rally, Chinese were getting stock tips from fortune tellers, and Buddhist monks were opening brokerage accounts.
Retail investors borrowed money to speculate, with the regime even allowing them to collateralize their homes.
The purpose of all this was clear: a bull market would instill a sense of confidence in the Chinese economy. As Xinhua, the state news agency, put it: “The surge of confidence in the stock market has excited the entire society’s faith in development, and it allows the people to view the new phenomena under the new norm with peace and optimism.”
Investors across China put their money into the market because of these implicit promises by the regime, which guarantees social stability.
A Manipulated Crash?
While the markets themselves, and the recent rally, were forged in the cauldron of Party political need, it’s possible that the crash too was an engineered political maneuver.
This view, which essentially posits a factional conspiracy behind the crash, sounds far-fetched when using the standard categories of understanding finance found in modern Western countries with developed capital markets.
But in China, it’s a view entertained by credible and experienced analysts, and is buttressed by the deeply political nature of just about everything in the country.
Wang Jianguo, a professor at the Guanghua School of Management at Peking University, aired this view in a series of furious posts to his Sina Weibo account in early July. The commentary went unnoticed by foreign media.
“The whole plot is like a sequence of linked rings. It is absolutely not possible to execute a ‘financial coup’ at such an astonishing scale without a perfect plan or knowing the rival’s weakness and ignorance in finance so clearly,” he wrote. “Propaganda, financial leverage … collectively going short and the timing to attack have been working together. The extreme deviousness of one faction and the arrogance of the other faction synchronizes to make what we see happen.”
Wang does not identify the factions he refers to, though for the last three years in Chinese politics, the only serious political groupings to speak of have been those around the former Communist Party leader Jiang Zemin, and the current boss Xi Jinping.
The devious faction would be that of Jiang Zemin, using an engineered financial crash to attack the arrogant faction of Xi Jinping, which has succeeded in the last two years in largely dismantling Jiang’s faction.
Jiang took over the reins of the Communist Party after the Tiananmen massacre in 1989, and relinquished them in 2002—but for the following decade, he was by far the dominant force in Chinese politics. Only under Xi Jinping was Jiang’s control wrested from the security sector and the military—though not yet the finance sector.
Wang Jianguo’s flurry of Weibo posts included this comment: “[The collapse] devastates both Chinese people and the current Party leadership group. The sneak attack was conducted when the premier was out of the country—how malicious!
“China’s economy was almost ruined by them … they actively conspired and plotted to destroy China’s economy,” Wang said.
Li Keqiang left for Europe on June 28 and returned on July 3.
How could such manipulation have taken place? There are divergent views on whether China’s stock market is primarily the realm of small time investors—a diversion for the local noodle stand operator—or primarily controlled and manipulated by the elites and vested interest groups.
If the latter scenario is the case, the scope for manipulation may be greater.
The Financial Times recently published an analysis suggesting that retail investors’ “share of overall market value is probably 5 percent or less.”
In the book “Privatizing China,” Carl Walter and Fraser Howie document one case of stock market manipulation where a certain Lu Liang was shown to have controlled 1,575 individual investor accounts to pump up the price of a security before dumping his shares for a tidy profit. In total, the number of ghost accounts used in the scheme may have stretched to 14,000, the authors write.
‘Save the Market’
Whether the crash was engineered as part of a political attack on Xi Jinping—an elaborate scenario, though one which accords with the understanding many Chinese have of the internecine workings of the Chinese Communist Party—or was merely the natural, if sudden, deflation of an overhyped speculative bubble, the heavy arm of the state was again waiting in the wings.
In the weeks following the collapse, nearly half the market was frozen, meaning that shares in nearly half of listed stocks were prevented from being bought or sold. A range of other measures were instituted “To … essentially ban major stockholders from selling their shares, along with many other unprecedented restrictions on stock market transactions,” said Gordon Chang, an author and commentator on China, in a telephone interview.
The authorities also announced the creation of a $20 billion fund to support the market, lining up banks and securities firms to declare unity with the central leadership.
And on July 9, Xinhua announced that Meng Qingfeng, the deputy minister of the Ministry of Public Security, arrived at the China Securities Regulatory Commission with his entourage, determined to get to the bottom of the market crash.
With all pretense of stock market autonomy from the political system having been discarded, Xinhua wrote: “They will work together with the CSRC in investigating leads on malicious short selling in stocks and stock indexes in recent weeks. This shows that supervisory organs will strike hard with a heavy fist against all illegal and irregular behaviors.”
Paul Huang contributed to this report.