China Stock Market Rocked by Forced Sellers; Yuan Hits Fresh Low

(Bloomberg) -- Chinese shares extended the world's deepest slump and the yuan touched its weakest level in almost two years, testing the government's ability to maintain market calm as risks mount for Asia's largest economy.

Fears of widespread margin calls fueled a 3 percent tumble in the Shanghai Composite Index, which sank to a nearly four-year low as more than 13 stocks fell for each that rose. Efforts by local governments to shore up confidence in smaller companies failed to boost sentiment. The yuan slid beyond its closely watched August low after the U.S. Treasury Department stopped short of declaring China a currency manipulator, a move that some interpreted as giving Beijing breathing room to allow a weaker exchange rate.

Chinese policy makers face a tough balancing act as they try to maintain financial stability amid slowing economic growth, a trade war with America and rising U.S. interest rates. Beijing has so far refrained from major market rescue efforts of the sort that followed the nation's 2015 equity crash, but some investors are calling for bolder action. With $603 billion of shares pledged as collateral for loans, or 11 percent of China's market capitalization, one concern is that forced sellers will tip the market into a downward spiral.

“It's high time the state stepped in,” said Dong Baozhen, a fund manager at Beijing Tonglingshengtai Asset Management. “The national funds cannot just sit on the sidelines and watch this atmosphere of extreme pessimism.”

Going Local

While the so-called national team of state-backed funds has intervened to support the market in the past, efforts recently have been led by local governments. Officials in the southern cities of Shenzhen and Shunde as well as Beijing's Haidian district have moved to help listed firms in their areas, according to local authorities and media reports. At least 36 companies have seen pledged shares liquidated by brokerages since the start of June, according to company filings.

The Shanghai Composite closed at 2,486, its lowest finish since November 2014. The gauge has slumped about 30 percent from a January high.

Federal Reserve minutes on rate increases and news the U.S. plans to withdraw from a postal treaty favorable to Chinese companies added to the bearish sentiment, as did renewed weakness in the yuan. The currency traded in a tight range in the days leading up to Treasury's semi-annual report on foreign-exchange markets, helping to buoy risk sentiment globally. But on Thursday, the People's Bank of China weakened its daily fixing by 0.25 percent. The yuan dropped as as much as 0.3 percent to 6.9422 per dollar as volume surged to the highest since December 2016.

“There was a minority in the market who bet China would want to aggressively resist yuan depreciation to avoid being called a currency manipulator,” said Frances Cheung, head of macro strategy for Asia at Westpac Banking Corp. in Singapore. “The Treasury report means that bet is off. We think China would be comfortable with more weakness as long as it's driven by the strong dollar.”

Investor attention may now shift to the release of official data on Friday. The reports will offer details on the state of China's economy through the end of September, when the U.S. escalated the ongoing trade war. Gross domestic product probably expanded 6.6 percent from a year earlier in the third quarter, according to a Bloomberg survey of economists.

"The markets are getting more volatile each day and will probably stay so over the next two months," said Banny Lam, head of research at CEB International Investment Corp. "Investors are pricing in the scenario that China's economy will be impacted by the trade war in the next six months, as they believe the effects will start to show from the fourth quarter."

--With assistance from Amanda Wang and Emma Dai.

To contact Bloomberg News staff for this story: April Ma in Beijing at ama112@bloomberg.net;Sofia Horta e Costa in Hong Kong at shortaecosta@bloomberg.net;Tian Chen in Hong Kong at tchen259@bloomberg.net

To contact the editors responsible for this story: Richard Frost at rfrost4@bloomberg.net, Michael Patterson

With assistance from Editorial Board