The Game is UP↑: Manipulating the Chinese Stockmarket

Published: Sunday 12th July, 2015 21:30 GMT

“The basic tool for the manipulation of reality is the manipulation of words. If you can control the meaning of words, you can control the people who must use the words.” Philip K. Dick


At the nub of this war lies the Chinese word caozuo 操作, which translates into English either as operation or manipulation, and has cropped up recently in Chinese state media reports of the Chinese government ‘stabilising’ the market against the threat of ‘malicious manipulators’.

In the current financial system both groups are able to manipulate the market, whilst caught in the crossfire are regular market participants trying to operate in the market.

China’s stuttering reform has created these market anomalies, which allows self-interest groups to game the system, and the government to convince retail investors that only the party can save their portfolios in a crisis.

An inspector calls


公安部已对昨日涉嫌恶意做空的机构个人核查取证 – QQ news

On Thursday evening personnel from the Ministry of Public Security (MPS) entered the offices of the China Securities Regulatory Commission (CSRC) to open an investigation and collect evidence on over ten organisations and persons suspected of large scale malicious short selling. This morning, MPS vice-minister Meng Qingfeng lead a group visit to the CSRC to unearth clues surrounding recent malicious short selling of shares and stock index futures, making it clear that the authorities will strike hard on any illegal industry behaviour.


The involvement of the MPS is a game changer in the governments fight against market short-sellers. On July 2nd the CSRC indicated it would target “short selling of index futures, which are the main reason for recent stockmarket falls”. And on July 5th, the China Financial Futures Exchange (CFFEX) announced it would limit investors’ daily purchases of CSI 500 index futures. A fact not reported in the media is that the ‘peizi’ or shadow margin lending business also lends money for trading index futures.

Both these and similar regulator announcements were met with apathy from Chinese netizens, who questioned the ability of China’s financial regulators to clampdown on market manipulation. Only when the police became involved did investors take cue that the Chinese government would apply real pressure on short sellers, and the Shanghai Composite composed itself on Friday 10th, closing up 4.54% at 3,877.80.

In umbrellas we trust


场外配资“监管黑洞”:大跌前规模或不止5000亿 – Netease news

Off market margin lending “a regulatory blackhole”: Market size at least 500bn before the stockmarket crash. An important consensus is that the chain-reaction sell offs of highly leveraged portfolios has made the regulators attempts at saving the market through normal policy wholly ineffective.

According to the China Securities Association, off-market or shadow margin lending through (the trading systems) HOMS, Mecrt and HiThink has reached over Rmb 500bn, with Rmb 440bn channeled through HOMS.

“The two softwares (HOMS & Mecrt) both have account splitting capabilities, which in theory means both contain hidden amounts of margin lending. Besides, some shadow margin lending is carried out through private equity funds, so is not entered into official statistics”, reveals one shadow bank insider who dealt with Mecrt previously.

“In this (shadow margin lending) business, the margin lending company earns interest, the software company earns operation fees, brokers earn commissions, third parties share the same profit motives, and collaboration costs are low”, said a partner in a Shanghai private equity fund running a margin lending business.


Previous chiecon posts have explained how the ‘peizi‘ or shadow margin lending business works, and how it has helped divert funds from the real economy into the stockmarket during the bull run. This post shows argues the same flow can be used to manipulate the stockmarket.

Two key features of using umbrella trusts will attract organisations, groups or persons intent on manipulating the market:

i.) Accounts in an umbrella trust can be split, and then split again in the HOMS software, which can conceal the true beneficial owner of the trading funds. The account details and password can be sent to a third party, who can then trade the account independently.

ii.) Leverage up to five times, which is higher than official margin lending, and can be used to purchase a wider range of stocks allowed under the official lending program.

Common stockmarket manipulations such as pools, pump and dump, ramping and bear raids can all be executed and amplified through the umbrella trust trading flow, and can be hidden amongst normal asset management trading, or ‘peizi’ business.

Up until now, attempts by the regulator to curb this behaviour have failed. 

An attempt in May to prevent banks lending funds to umbrella trusts can be circumvented by setting up the same flow through a single trust instead. 

Another approach from the regulator was to force stockbrokers to investigate any shadow margin lending activity in accounts held by umbrella trusts. A basic method is for the stockbroker to check the IP address on trade orders. If the trades are genuinely executed by teams within an asset management or investment company, the IP address on the sub-accounts should be the same. 

Shadow banks were able to implement IT runarounds, one being to route investors’ orders via the shadow bank’s website, ensuring the same IP address on sub-account orders.

Shades of grey


股灾引发做空机制激辩 谁在做空中国股市? – Netease news
Short sellers in the index futures market fall under two categories: 1. Hedging positions 2. Speculation. During this market crash most industry insiders believe the majority of short sales were for hedging purposes.


Given how quickly the stockmarket had risen this year, it was commonly believed that the market was due a correction, therefore a lot of players would have been looking at some short term protection, especially if the investor’s purchases were at the recent high valuations.

This is the bigger problem for China’s financial regulators. The awkward development of China’s economic reform has resulted in self-interest groups whom are able to monopolise resources, funds and information for personal gain at the expense of regular market participants.

In China’s stockmarket this results in inefficient information transmission, asymmetric information, and ineffective price discovery.

Those agents either in or close to the government, or in a company’s upper management are able to exploit the market for profit, without having to resort to market manipulation. Insider trading, or simply being better equipped and informed enables these players to maximise profit, or limit losses in an inefficient stockmarket. Channeling funds through an umbrella trust would be an obvious route, whilst maintaining an ‘official’ publicly disclosed position.

But in China’s current financial system it is hard to distinguish between insider dealing and sophisticated investors. To ban umbrella trusts, or HOMS style trading systems risks progress in China’s financial development and reform. As per the arguments in this article, the government needs greater financial innovation to widen investment channels.

Share and share alike


《关于清理整顿违法从事证券业务活动的意见》 – China Securities Regulatory Commission

v.) Securities investors must adhere to CSRC rules and regulations, and strictly follow the requirement for real names when opening securities accounts. No organisation or person can lend their trading account to another, or use another person’s account to trade securities.


Today’s announcement from the CSRC banning the sharing of accounts is the strongest attack yet on shadow margin lending, but carefully designed not to hurt genuine trading activities.

It is the first move by the regulators since MPS involvement, adding credence to the possibility that umbrella trusts and shadow margin lending flows are tools for stockmarket manipulation.

All warfare is based on deception – Sun Tzu

The above arguments are based on the logic of profit maximisers acting rationally in China’s unbalanced market system. So far Chinese state media claims of ‘malicious short-selling’ have yet to show any evidence, and provides the government with a convenient scapegoat for the recent crash. And finding a media villain is an old tactic to shore up popular support for the party.

Undoubtedly this narrative is part of the greatest manipulation in play, steering the media and law enforcement agencies along these lines, directs attention away from the recent drop in investor demand and liquidity. The deception continues as many investors, companies and commentators are distracted from the continuing troubles in China’s real economy.

Since last year the government has manipulated the media to talk up the bull run, and a gentle series of monetary easing measures followed to keep liquidity rolling in. 

Now subtlety has been replaced with desperation, rules on stockmarket reporting and blunt control measures to manipulate the market back up: Halting IPOs, preventing shareholders with holdings over 5% from selling for six months, SOEs vowing not to sell or announcing share buyback plans, allowing up to 1,331 firms suspending trade in their shares, and generally an air of threat hanging over anyone wanting to sell on a downtick.

Foreign media reports universally dismiss the party’s efforts to save the market as ‘doomed to fail’. But this misses the point. By stepping into a chaotic situation, giving it plenty of exposure, and controlling the situation albeit in a fudged way, the party hopes to convince retail investors that only the government is capable of controlling chaos, and in turn manipulating people into endorsing its role in the markets.

(Photo credits: Liu Bolin – Hide in the city n°17, civilian and policeman II, 2005. Article not to be reproduced or copied without permission).


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