Q1: Please tell us about the erroneous proprietary trading of Everbright Securities (Xie Weiqun, People’s Daily).
A1: At about 11:05 am on August 16, the Shanghai Composite Index rose abruptly, heavyweight stocks such as PetroChina, Sinopec, ICBC, and BOC touched maximum trading limits. The Shanghai Stock Exchange (SSE) immediately carried out emergency disposal and verification.
From 11:05 to 14:19 when Everbright Securities issued an announcement, the stock index’s dramatic fluctuation can be roughly divided into four stages. The first stage is from 11:05 to 11:07 when the Shanghai Composite Index rose by 5.96% in a short time (compared to the previous closing, the same below). The second stage is from 11:07 to 11:15 when the index fell from 2,198 to 2,103, increasing by 1.01%. The third stage is from 11:15 to 11:30 when the index rose from 2,103 to 2148, increasing by 3.19%. The fourth stage is from 13:00 to 14:19 when Everbright Securities issued an announcement and the index fell from 2,148 to 2,082, increasing by 0.01% over the previous day.
During that time, a large number of rumors were spreading in the market. The rumors mainly fell into three categories: some say there is good news such as universal banking, the introduction of preferred shares, the implementation of T +0 transaction, and the position-opening of foreign exchange funds of China Investment Corporation; some say the trading system and quotes system of the exchange have malfunctioned; and others say there is fat finger, which is quite complicated.
After 11:05, the SSE market monitoring system issued an alert on cumulative increase, and dozens of such alerts had been issued until 11:07. Real-time monitoring staff found in the analysis that the largest buyer of stocks is a proprietary account of Everbright Securities. We immediately contacted with Everbright Securities and asked them to give us a report on the situation. Later, the verification showed that: from 11:05 am to 11:07, the proprietary account declared thousands of market orders, each one of which had 100 shares to 996.9 thousand shares, with a turnover of over RMB7 billion.
Whether it is the order price or the number of orders, each purchase order of Everbright Securities conformed to the “SSE Trading Rules”. And all the orders declared by Everbright Securities in a short time used the market order of “Order for instant transaction at the best five prices with remaining being cancelled”.
The SSE surveillance department inquired Everbright Securities about the situation. After that, the SSE member management department and the SSE regulation department for listed companies demanded and repeatedly urged Everbright Securities to identify the situation as soon as possible and fulfill the obligation of information disclosure.
SSE clarified the rumor and said that “so far the SSE systems are functioning properly” on its official micro-blog at 11:44 after an examination on its trading system and quotes system and confirmed no fault.
Meanwhile, the SSE launched the cross-market regulatory process for abnormal transactions with the China Financial Futures Exchange, and discussed the settlement issues with Shanghai Branch of China Securities Depository and Clearing Corp. Ltd.
At noon, Everbright Securities, a listed company, said that the erroneous trade might be caused by the malfunction of its proprietary trading system, and applied for trading suspension. According to the “SSE Share Listing Rules”, the SSE suspended trading of Everbright Securities in the very afternoon, and repeatedly asked the company to act as the statutory information discloser to issue an announcement and clarify the incident as soon as possible.
At 14:19, Everbright Securities made an announcement on the incident and the reasons for it.
Q2: “What regulatory measures were taken by the SSE in the incident?” (Zhang Xueqin from Tencent.com, Wang Xiao from Sina.com, Han Yizhong from Shanghai Morning Post, Chang Liang from 21st Century Business Herald, Cai Jun from Moneyweek, Hu Qing from Shanghai Great Wisdom, Wang Tao from Nanfang Daily, and Cao Wei from 10JQKA.com.cn.)
A2: The SSE successively took the following measures according to laws and regulations after the incident on August 16, 2013 (Friday).
At 11:06, after warning of the SSE’s market surveillance system and upon inquiry on the system, the SSE first detected abnormal transactions in the proprietary account of Everbright Securities.
At 11:07, the SSE’s market surveillance department contacted people including heads of Everbright Securities and its Compliance Supervisor as required by market surveillance. Relevant people either said that they were not in the company or they did not have enough information about the incident and needed further investigation. The SSE required the company to give reply as soon as possible.
At 11:10, upon discussion by the SSE’s market surveillance department and the China Financial Futures Exchange (CFFEx), the SSE launched the cross-market regulatory process for abnormal transactions according to the stipulated mechanism of regulatory cooperation.
At 11:15, as it was rumored that faults were found in the SSE’s trading system and quotes system, the SSE immediately initiated self-examination on its trading system and quotes system, and announced on its official micro-blog: “the SSE’s systems have been running normally” at 11:44.
At 11:45, the SSE reminded Shanghai Branch of China Securities Depository and Clearing Co., Ltd. of the possible risks in clearing by phone. Later, both sides discussed on-site about relevant issues of settlement, in order to prevent from systematic risks resulted from settlement.
At 11:45, the heads of relevant departments of the SSE called heads of information disclosure department, compliance department, and IT department of Everbright Securities to again require them to investigate upon causes of the incident and report relevant information on time.
At 12:00, relevant heads of Everbright Securities called back and said that there may be something wrong with its strategy trading system, and specific problems were still under investigation. Later, the SSE made calls and texted messages to Secretary to Board of Directors and Representative of Securities Affairs of Everbright Securities to urge them to conduct investigation, make an announcement as soon as possible, and consider about trading suspension.
At 12:42, Everbright Securities applied for trading suspension of its shares for “Not having announced the significant event”. The SSE suspended trading of the company’s shares for half of the day according to the “SSE Share Listing Rules”, and required the company to release an announcement to explain the causes of the incident. The SSE later released information of trading suspension of shares in Everbright Securities for “not having announced the significant event” on its micro-blog and quotes terminal to the market.
At 12:50, the SSE again called heads of Everbright Securities and urged them to announce relevant information before market opening in the afternoon. Later, heads of the SSE continued to urge the company to immediately issue an announcement, and explain the incident and its cause. At the same time, the SSE sent supervisors to Everbright Securities for more information.
At 14:19, Everbright Securities released an announcement about the situation and cause of the incident on the SSE’s website, which was forwarded on the SSE’s official micro-blog.
At 15:00, the SSE issued on its official micro-blog the information of “The SSE’s trading system is in sound operation and all transactions made will be cleared and settled in order” in response to the rumor that the abnormal transactions resulted from the incident of Everbright Securities would be canceled.
At 15:23, Everbright Securities sent the SSE an email titled “Explanation on Abnormal Transactions of Everbright Securities for the ‘Liquidity Strategy’ of Its Strategy Investment Department on August 16”.
Afternoon the day’s trading was closed, the SSE issued a “Letter of Supervision Alert” to Everbright Securities, requiring the company to further clarify the cause of the abnormal transactions and issue an announcement to the market before August 19. In addition, the SSE and the Shanghai Securities Regulatory Bureau organized a join inspection team to carry out on-site investigation on this incident.
Q3: “Why didn’t the SSE take the measure of special market closure when detecting the abnormal trading?” (Xin Shanglun from Dongfang Daily)
A3: The reason why the SSE did not take the measure of special market closure was due to considerations as follows:
First, legal ground for special market closure in the incident is inadequate. Clause 1 of Article 114 in the “Securities Law” states exchanges may decide upon special market closure and report to the China Securities Regulatory Commission (CSRC). However, it is a rather general rule, whether it can be applied to the abnormal trading in the incident of Everbright Securities was not quite clear. Once the measure of special market closure is taken, the SSE may have to face questions such as inadequate grounds and unclear standards. Besides, according to the SSE’s rules on relevant business, the SSE should only take the measure of special market closure mainly in cases such as failure in starting trading or continuous trading, serious errors in trading results, or failure in completion of normal trading resulted from force majeure, accidents, or invasions to systems. The abnormal trading of Everbright Securities could hardly be counted as one of these situations.
Second, market necessity for special market closure was not prominent. As is introduced before, abnormal fluctuations only lasted for a short period of time in the incident. Meanwhile, as rumors on the market varied, further investigation was required; therefore, the reason and necessity of special market closure were not found adequate. Besides, August 16 was a delivery day for stock index futures contracts, the measure of special market closure would greatly influence the futures market.
Third, the SSE considered that overseas markets rarely take the measure of special market closure in similar cases. For example, the measure of special market closure was not taken in the incident of Mizuho Securities at the Tokyo Stock Exchange on December 8, 2005, the incident of Facebook at the NASDAQ Stock Market on May 18, 2012, and the incident of Knight Capital Group and the incident of Goldman Sachs at the New York Stock Exchange respectively on August 1, 2012 and August 20, 2013. The SSE have also noticed that overseas markets have clear prescription in situations, standards, and procedures for application of special market closure in response to great incidents, and are very careful in making the decision of special market closure.
Since China established its capital market, the measure of special market closure has been taken in few cases, not even when the maximum decrease of big-cap reached 8.84% on February 27, 2007, the maximum increase of big-cap reached 9.60% on April 24, 2008, and the maximum decrease of big-cap reached 5.74% on June 25, 2013, respectively, and the Wenchuan earthquake struck on May 12, 2008 (The SSE and other 4 exchanges, having announced in advance, closed markets on May 19 for 3 minutes to moan the victims in the earthquake, according to the requirement of the State Council and the decision of the China Securities Regulatory Commission).
In light of the rare incident of Everbright Securities, the SSE will further investigate and demonstrate the situations, standards, procedures, and other issues in taking the measure of special market closure.
Q4: "Why didn't the SSE immediately issue any notice after the incident of Everbright Securities?" (Pan Qing from Xinhua News Agency, Wang Lu from Shanghai Securities News, Cheng Liangliang from China Business News, Zhang Zhong’an from Guangzhou Daily, Liu Chen from finance.sina.com.cn., Zhao Ting from money.163.com, and Zhu Ping from 21cbh.com.)
A4: After the incident, according to its usual practice, the SSE did not take the initiative to issue any announcements. This inaction, compared to the NYSE’s alert announcement released after the erroneous orders of Goldman Sachs on August 20, elicited some doubts among the investors.
As is introduced above, the alert information indicating the abnormal trading in the incident on the very day was the volume of cumulative increase in stocks. It was also noticed in follow-up analysis and by the market that the quantity of orders in the proprietary account of Everbright Securities within 2 minutes was tremendous. However, each of these orders were within the range stipulated in the “SSE Trading Rules” in terms of price and quantity, and were thus accepted and approved by the system. Besides, all the large number of purchase orders of Everbright Securities this time used the market order of “order for instant transaction at the best five prices with the remaining being cancelled”, with no false orders withdrawn occurred.
Given the practices in major markets, as erroneous prices of orders are comparatively easy to be detected, usually exchanges will make announcements in time in cases of “Fat Finger” trading of this kind. For example, in 2012 when technical failures occurred in the market making system of Knight Capital Group, one of the NYSE’s market maker, a large number of erroneous orders with purchase at high prices and sale at low ones were sent out, leading to great abnormal fluctuations of nearly 100 stocks and confusing price signals. As a result, the NYSE issued an announcement during intraday trading. In the recent incident of Goldman Sachs, as errors occurred in the company’s trading system, a lot of derivatives orders with wrong quotations were sent to the market, and relevant exchanges also released an intraday announcement. As for abnormal trading due to wrong order quantity, it is difficult for exchanges to tell whether they are real intended transactions or “Fat Finger” operations; therefore, in most cases like this, exchanges will not make special announcements. For example, in Taiwan’s Fubon Securities incident in 2005, some traders mistook the order of NTD80 million for NTD8 billion, in the case of which, the exchange did not issue any intraday announcement, neither did the Japanese exchange in the Mizuho Securities incident in 2005.
As the responsible party in the abnormal trading, Everbright Securities in this incident is also one of the listed companies of the SSE and its members, which means Everbright Securities, as an obligator of information disclosure according to the "Securities Law", was obliged and informed enough to judge the nature of this incident and disclose relevant information to the public. Therefore, the SSE took the measure of repeatedly urging Everbright Securities to make an announcement, which was a regular and reliable regulation method.
In view of alert and treatment of abnormal trading, the SSE’s real-time monitoring system reports an average of over 100 alerts involving the abnormal trading each day. A total of nearly 1,000 of these alerts are transferred to self-disciplinary regulation and investigation upon analysis of the real-time monitoring staff every year. As a self-disciplinary institution, the SSE is not entitled to mandatory administrative investigation, and it mainly investigates the nature of abnormal trading through inquiry on phone or by letter. When detecting behaviors violating the trading rules, the SSE will take the measures of self-disciplinary regulation; meanwhile, it will report cases involving illegal behaviors to the CSRC for further treatment. Besides, since 2008, a total of 90 trading days have seen intraday fluctuation of over 4% for the SSE Composite Index, of which 37 cases of fluctuation (a percentage of nearly 41%) were influenced by rumors or holding increase and selling of large-scale institutions, including some large fluctuations of the SSE Composite Index within several minutes. In such cases, it is hard for exchanges to conduct intraday investigation and nature determination, as well as make announcements as self-disciplinary institutions.
Although the SSE made some preliminary judgment on the abnormal trading of Everbright Securities through analysis on system inquiry and phone investigation, as it requires a certain period of time for the exchange to investigate into the abnormal trading, and relevant rumors varied, the SSE did not grasp all-round situation in its informal investigation before the announcement made by Everbright Securities at 14:19 on the very day, and relevant evidences could neither be testified in such circumstances. At that time, it was difficult for the SSE to release any verified announcement. In fact, the SSE only received the written letter of confirmation of the incident from Everbright Securities after the market closed on the very day. Then, the announcement of Everbright Securities has been forwarded by the SSE and issued, thus no further announcements or comments were needed.
This incident has made the SSE fully aware that, the market badly demands the exchange to make announcements on time to reduce information asymmetry. The SSE is facing a challenging task in meeting the requirements of the market to establish a system for the exchange to directly issue intraday announcements in cases of abnormal trading and great fluctuation, as well as explicit standards and procedures for information release, so as to avoid misjudgment, misguidance, and unfairness.
Q5: Why didn’t the SSE cancel transactions? (Wang Dan from 21st Century Business Herald, Li Hui from Hexun.com, and Yang Lu from Caixin Media)
A5: For the abnormal transaction of Everbright Securities, the SSE decided to maintain the transaction results by announcing that “all transactions made will be cleared and settled in order” to the market. It was a prudential decision based on comprehensive consideration of existing laws, market impact, and operational risk.
First of all, from a legal perspective, Article 120 of the “Securities Law” provides that “the results of transactions conducted under transaction rules promulgated according to law shall not be changed”. Therefore, transactions completed under lawful rules shall not be cancelled. Although Everbright Securities submitted huge quantities of orders in a short while, all these orders complied with the trading rules; the SSE’s current business rules, in reference to legal provisions and overseas experience, lay provisions on cancelation of transactions under specific circumstances. However, the specific criteria and circumstances for transaction cancelation do not apply to the abnormal transaction of Everbright Securities.
Second, the cancellation of transactions would have extensive impact. Although the investors who followed the suit to purchase would benefit, the investors who sold at high prices would suffer losses. Evidently, there would be strong oppositions to cancellation of the transactions.
Third, in terms of actual operation, due to lack of precedents, it was difficult to determine the time and scope of transactions to be cancelled, and a lot of complicated operations would be involved. The resultant risk could not be ignored.
Finally, according to the practice of major markets in dealing with “Fat Finger” incidents, most would adhere to the principle of “caveat emptor”. For example, in the Fubon Securities incident in Taiwan in 2005, the Mizuho Securities incident in Japan in 2005, and the Emkay incident on the Indian market in 2012, the transactions remained valid and buyers suffered due losses. Of course, there are instances of cancellation, too, mostly on the American market. However, cancellation must be based on prior laws, rules and standard operating procedure. For example, in the “US stock market’s flash-crash” in 2010 and the recent Goldman Sachs incident, transactions with conspicuous error were canceled under the relevant rules and standards predetermined by the stock exchange. We will seriously work on the regulations, rules, standards, procedure and business/technical arrangements for cancelling transactions under these circumstances.
Q6: “Why didn’t the exchange exercise control over the number and amount of transactions of securities companies’ proprietary seats?” (Huang Ting from Securities Times and Luo Sanxiu from Financial World under Xinhua News Agency)
A6: According to overseas experience, almost no exchanges lay front-end control over securities transactions, due to constraint of the market mechanism, the self-discipline and accountability of market participants (securities companies) and stringent subsequent accountability, as well as emphasis on efficiency. The market participants are only required to undertake delivery responsibility on the delivery date (usually T+3), otherwise they will be held accountable. This is the case in America, Europe, Japan, Singapore, South Korea, and Hong Kong.
China’s securities market is different. To prevent market risk, front-end monitoring is adopted under the existing “Securities Law”, in addition to the signing of agency agreement between the securities company and investor clarifying their respective responsibilities and obligations, and independent risk control in proprietary business. With the primary securities account system, exchanges as well as securities depository & clearing companies grasp the investors’ securities data. Therefore, exchanges as well as securities depository & clearing companies add front-end control to the sale of securities. According to the existing “Securities Law”, investors’ funds are under third-party custody and distributed in different banks, and may be withdrawn at any time during transactions. The front-end control over securities purchase is exercised by securities companies and custodian banks that possess the investors’ fund information. Besides, securities depository & clearing companies have established the minimum settlement margin system requiring securities companies to deposit settlement margin and pay the fund in full amount on the day immediately after the transaction to complete transaction delivery. Therefore, the proprietary transactions of securities companies cannot be simply considered as “Excessive Purchase” or “Credit Transactions”.
Over recent years, with steady progress in the risk control and compliance system of securities companies, operations have been standardized and steady in the entire sector, though it is still possible for securities companies to conduct transactions beyond their financial strength and regulatory requirements due to various factors, including system deficiency in the incident of Everbright Securities. High attention should be paid to these risks. Although our market supervision system has in place relevant transaction alert indicators and can timely identify abnormal transactions, we can only handle incidents after they occur instead of preventing them. Therefore, we will actively research and improve rules and procedures of front-end prevention and control over relevant risks to ensure transaction security and maintain market stability under the organization of regulatory authorities.
Q7: “In recent years there have been ‘fat-finger’ incidents from time to time in overseas markets. Can you tell us how they have been resolved by the exchanges concerned?” (Zhou Songlin from China Securities Journal)
A7: “‘Fat-finger’ is a colloquial term in securities markets. It generally refers to an incident in which the price, volume, and direction data of the orders are issued to the trading system without conforming to trading intentions, as a result of the trader’s operational error or a glitch in the technical system. According to which aspects of the orders go wrong, the ‘fat-finger’ errors can be categorized into price error, volume error and price and volume error. In terms of the causes, there are operational errors and technical ones.”
In securities markets, “fat-finger” errors, huge or small, happen every day. It is only those large-scaled and influential cases that have caught our attention. Internationally, exchanges follow the securities laws, regulatory requirements and trading rules of their own countries in dealing with “fat-finger” trades. As countries have different law systems and exchanges’ different trading rules, there has not been yet a unified standard, and accordingly the resolutions differ. But on the whole, in their dealing with ‘fat-finger’ incidents that have frequently occurred in recent years, overseas exchanges take on the following features:
First, except for the canceling of trades with obvious price errors that meet certain standards (of range or transaction amount etc.), most overseas exchanges do not easily invalidate trades. Most of them have the liable parties shoulder the losses on their own.
Second, unless “fat-finger” trades have induced price volatilities that in turn trigger the “Market Circuit Breaker”, overseas exchanges do not usually hold the trading to a temporary halt.
Third, it is comparatively difficult for the exchanges to put up intraday announcements when the volume-type “fat-finger” errors occur; but it is relatively easy to identify extreme price-type errors, as a result of which the exchanges are usually able to issue announcements in time.
The following table presents the details:
Summary of the incident |
Type of “fat-finger” errors |
Whetherexchanges made intraday announce-ments
|
Whether the trading was tempora-rily halted
|
After-incident settlement
|
On June 272005, a trader at Taiwan Fubon Securities acting as proxy for a foreign investor mistook an order of RMB80 million for 8 billion, and bought 282 stocks at the upper limit, causing Formosa Chemicals and several other stocks to surge, and the market up by nearly 1% within 8 minutes. |
volume
|
No |
No |
The trades were valid and the liable party undertook all responsibi-lities. |
On December 8, 2005, a trader at Mizuho Securities of Japan sold out 610,000 J-COM shares at 1 Japanese yen per share when he was supposed to have sold 1 J-COM share at 610,000 Japanese yen, thus plunging down the share price of J-COM. |
Price and volume
|
No |
No |
The trades were valid and the liable party undertook all responsibi-lities. |
On May 6, 2010, an American fund company issued US$4.1 billion’s worth of program-trading short orders of S&P 500 Mini Index Futures within a short period. As a result, the NYSE suffered a “flash crash”. Down Jones Index plummeted within minutes, with the highest price drop of 9.2%, and then rebounded with equal speed. Eventually the market finished 3% down that day. |
Volume
|
No |
No |
Canceled the trades with obvious errors ( with 60% off the reference price as the standard) |
On August 1 2012, the NYSE market maker Knight Capital issued a large number of “buy at the high, sell at the low” orders as a result of technical malfunctions in its market making system, giving rise to substantial abnormal volatilities in hundreds of stocks. |
Price |
Yes |
No |
Canceled the trades with obvious errors ( with 30% off the opening price as the standard) |
On August 20 2013, owing to errors in its program trading systems, Goldman Sachs issued a large number of mispriced quotation orders of individual stocks options. Some of these options’ contract prices in CBOE, Nasdaq, and NYSE experienced great volatility as a result. |
Price |
Yes |
No |
Canceled the trades with obvious errors (identified by each exchange based on its own rules ) |
Q8: “Why has not the exchange instituted a ‘circuit breaker’ mechanism for the market and individual stocks? Is the exchange planning to establish one?” (Wang Lu from Shanghai Securities News, Zhang Peifeng from Tencent.com, Wu Linlin from Beijing Youth Daily, Huang Tao from China Business View, and Deng Yajing from Hexun.com)
A8: A circuit breaker in a securities exchange refers to a mechanism that triggers interruption or halt of trading when the volatilities of the big-cap or individual stocks exceed pre-set standards. It can be further categorized into big-cap circuit breaker and individual stocks circuit breaker. Now adopted by some European and American markets, its primary function is to create a cooling-off period in the market, help investors assimilate market information, prevent extensive non-rational volatilities of the market or certain product, forestall a market slump or even crash and ultimately maintain the stability of the market.
The circuit breaker mechanism was first introduced in the US, where the big-cap and individual stocks circuit breakers were instituted respectively in 1988 and 2010, and were modified again in 2012. At present, the market circuit breaker sets that when the S&P 500 Index is down 7% from the previous day, trading in all American securities markets will be suspended for 15 minutes. The individual stocks circuit breaker sets that when the prices of constituent stocks and other high-liquidity securities in S&P 500 fluctuate by more than 5%, the trading will be halted for 5 minutes; for those securities with opening, closing and market prices under US$3, and other securities with lower liquidity, the fluctuation range is extended at 10%.
So far, China’s stock exchanges haven’t instituted any circuit breaker. Instead, we have established the price limit system. At present, Shanghai and Shenzhen stock exchanges implement a 10% price limit, and every price limit declaration in securities trading comes with a “price cage” (a price fluctuation limit against current market prices). Besides, the market orders could only absorb orders within five levels of the current prices. Thus the system is conducive to preventing obvious order price errors, constraining to some extent dramatic price changes so that market stability could be achieved.
On the whole, as the price limit is applied both to the market and to individual stocks, the circuit breaker may have only a limited role to play, for, judging from overseas experiences, stock cash markets usually choose between a price limit for the individual stocks and a circuit breaker for the market, but seldom both. However, in terms of providing a cooling-off period for the assimilation of market information, the circuit breaker is functional. On its functions, the SSE will carry out further research and investigation.
Q9: How to deal with cross-market regulatory gaps and artificial inequality in arbitrage mechanism? (Pan Qing from Xinhua News Agency and Li Hui from Hexun.com)
A9: Upon the official launching of index futures, the SSE, the China Financial Futures Exchange (CFFEX) and other institutions have established a number of cross-market, cash-to-futures joint regulatory mechanisms. Every month, we call regular meetings on cross-market regulatory cooperation to brief each other about market situations and efforts made in cross-market, cash-to-futures regulatory coordination. Every day after the markets close, we exchange summary data on institutional and individual trading. We have set up a “green path” to enhance our ability to discover and dispose of abnormal trades quickly. Besides, we provide each other with a list of key accounts at irregular intervals. As we can now spot, report and resolve in time any cross-market, cash-to-futures aberration, there isn’t really a regulatory “gap”. Take this incident for instance, the SSE established connection with the CFFEX at as early as 11:10, and triggered the cross-market regulation mechanism at once.
The different trading mechanisms in futures and cash markets in China have long been a concern and an object of study. The recent Everbright Securities incident has set off again extensive discussion, most of which centers on the following aspects:
One opinion believes that institutional investors can rapidly profit and flee by manipulating weighted stocks, while individual investors can’t. But the truth is, the real-time monitoring of substantial volatilities of intraday stock index indicates that by far no institutions have been found to profit and flee by pushing down the index.
Another opinion holds that retail investors can only profit by stock price growth and T+1mechanism, and are powerless in face of a market decline, while in contrast, institutional investors could hedge risks and even make exorbitant profits by shorting futures index. We believe that this opinion is reasonable to some extent, but is not flawless. Without the eligibility mechanism of investors, futures index could bring greater risks to the ordinary investors.
This incident has brought the market to a greater consensus of speeding up the implementation of the “T+0” mechanism so as to reduce risks resulting from the lack of error correction means. For one thing, China’s cash and futures markets have different trading mechanisms. The cash markets implement “T+1’ while the futures markets “T+0”. Individual investors are the major players in stock markets, but the stocks they buy can not be sold at “T+0”. On the contrary, futures markets are mainly comprised of big investors and institutional clients,who are allowed to sell futures contracts on the same day they are bought. It means that when there are abnormal volatilities in stock markets and the index declines sharply, a large number of individual investors can not sell the stocks they buy on the same day, and therefore can not avoid the risks, while big investors and institutional investors could hedge the risks in the stock market through the futures market. For another, the stock market can realize “T+0” indirectly by the ETF purchase and redemption mechanism. Big investors and institutional investors with financial strength can sell wrongly purchased stocks by exchanging a basket of stocks for ETF. But with insufficient capital to cross the threshold, retail investors are not equipped with “T+0” risk hedging tools, and thus find it difficult to rectify their mistakes after following suit in buying.
To protect the rights and interests of medium and small investors and to ensure market justice, we believe that it is essential that we speed up our research and investigation on “T+0” trading mechanism.
Q10: Why has not the exchange instituted any pre-warning mechanism for obviously abnormal order report activities? (Wu Ming from The Beijing News, Li Zhongyuan at PhoenixNet Securites, and Wang Yiming from National Business Daily)
A10: At present, the trading facilities the SSE supplies for securities companies mainly include the Participant Business Unit ( or ‘PBU’, which is similar to Trading Seat in early floor trading) and the front-end order machine in the order gateway. Both the securities companies’ proprietary trading orders and the investors’ orders are brought into the PBU and arrive at the host computer of the exchange through the order gateway for order matching. There are now about 1,000 order machines in the whole market that support almost 10,000 PBUs, providing services to nearly 0.1 billion investor accounts.
In fact, just because the proprietary trading orders and brokerage orders of the securities companies go through the PBU and offer machine to the host computer in a “mixture”, it is difficult at the moment to tell them apart order at the level of front-end control.
Take the incident of Everbright Securities as an example. The strategy trading department of Everbright Securities used a program-trading system that generated thousands of continuous orders, with the amount of each order within the normal report range. Although the trading system concluded RMB7 billion’s worth of orders within 2 minutes, involving thousands of orders, in effect it would be of no much difference from the scenario where 100 thousand clients of Everbright Securities reports one order of RMB70 thousand.
What’s more, unlike the established markets overseas that mainly comprise of institutional investors, the China’s securities market has always been more about medium and small investors since the very beginning. That is largely why the SSE turned down the paper and gesture trading modes that were popular in the NYSE and other established exchanges overseas at the time it was founded in 1990. In fact, the listed companies of the NYSE have only 20% of their trades concluded through host computer matching while the majority of trades are completed in the trading systems of securities companies. The NYSE and other overseas exchanges have only to deal with several thousand securities companies and other institutional investor accounts, while the medium and small investors report and conclude trades in the trading systems. In contrast, the host computers of China’s exchanges have to handle almost 100 million investor accounts.
Veteran investors should have no difficulties recalling a then much hated term at the fledgling stage of the SSE and the Shenzhen Stock Exchange: “Trading Block”. It was also the biggest technical hazard facing the exchanges at that time. Although the SSE has invested much more in the construction of trading systems than established exchanges overseas, it still remains our most important technical objective to ensure the stability, security and high efficiency of trading systems.
The incident of Everbright Securities has brought in new requirements for the SSE from every quarter of the market. As a next step, the SSE will carry out meticulous research and investigation on the feasibility of front-end pre-warning mechanisms, and in light of the market trait that centers on small and medium-sized investors strike a balance between the stability, security and operation efficiency of the trading system. We will employ constantly advanced technologies and endeavor to meet the new requirements the developing markets make of us.
Q11: “Did Everbright Securities ever sell stocks through ETF from August 19 to 23?” (Zhou Songlin from China Securities Journal, Wang Lu at Shanghai Securities News, and Xu Jingjing from Securities Times)
A11: Everbright Securities promised before the market opened on August 19 that it would not reduce the holding of stocks it bought in the incident of Everbright Securities. Since then, the SSE has been intensively monitoring related securities accounts of the company. Up to the closing of August 23 (last Friday), no activities of reduction had been found in related accounts including selling stocks, or purchasing ETF shares with stocks or other disguised activities of reduction. As a next step, the SSE will continue the close monitoring of related accounts and urge the company to fulfill its promises. Once the company is found to go against its words, the SSE will take appropriate regulatory measures.
As an essential component of the securities market system, securities exchanges take on three fundamental functions, i.e. to provide venues and facilities for securities trading, to organize and regulate securities trading, and to self-regulate member companies and listed companies.
In dealing with the incident of Everbright Securities, the SSE has taken proper self-regulatory measures in time and in accordance with its duties and the law. To this each quarter of the market has paid much attention. Some have made positive comments, some have expressed their doubts and some have given very good suggestions. All this has helped us to better perform our duties and maintain the healthy and steady development of the market.
In light of the advice and suggestions of the market, the SSE has given thoughts to its operations and regulations and has come up with some better understandings:
First, the market operations of the exchange should be guided by laws and rules, which are the foundations of all operations, and which should dictate what can be done and what can not.
For example, the Trading Rules of the SSE describe 13 abnormal trading behaviors in Rules 6.1, 6.3, and 6.5, including frequent order cancellation report, large position report and continuous trading of large volumes within a period etc. It requires that the exchange especially monitor these behaviors, carry out on-site or off-site investigations, and take regulatory measures such as oral or written warning, interrogation, or trade restriction etc. if serious cases have been confirmed.
Another example, The “Securities Law” has rather explicit injunctions about trade cancellation. Exchanges implementing trade cancellation might incur substantial doubts about its legitimacy. As for information disclosure, relevant parties and listed companies should take on legal responsibilities and disclose information to the market in time.
Second, the market order of the exchange could be achieved only when each party of the market has fulfilled their functions. Securities trading involves investors, securities companies, custodian banks, exchanges, clearing companies and others, each entity of which takes on different roles. For example, the exchanges are responsible for front-end examination of securities selling, while the securities companies are in charge of front-end examination of securities buying. If one party fails to perform, the market might be swamped down in chaos. Hence the orderly operation of the market demands that each and every party does his work. “So give to Caesar what is Caesar's, and to God what is God's”. No one meddles in another’s affairs and no role should be unfulfilled.
Third, the market regulation of the exchange is ensured by strengthening after-event accountability investigation. Determined by the special traits of our market, it is essential for the exchanges to carry out necessary front-office control in order to guarantee safe operations and maintain trading orders. But strict after-event responsibility investigation that gets the law and rule breakers to pay are the fundamental safeguard of regulations by the exchange. Otherwise, the self-regulation of the exchange is a mouth without teeth: powerless and non-intimidating. With the rapid development of trading technologies and increasing complexity of market products goes up the difficulty of front-office controls by the exchange, and the importance of intensifying after-event accountability investigation.
Fourth, the market development of the exchange should be aimed at a balance of security and efficiency. Efficiency and security has been an eternal theme in securities markets. Influenced by the market’s developmental stages, investor structures, technical levels and even contingent events, securities markets may lean to efficiency at some time and to security at another. Thus exchanges as the regulators should try to strike a balance between the two. For instance, when deliberating on whether or not to temporarily halt the trading, exchanges should take into consideration a variety of factors especially the situations on all sides at the moment the event breaks out, before making a decision in discretion.
With the fast growth of securities market in China, new businesses, circumstances and problems are appearing all the time demanding the constant improvement of the regulations by exchanges.
The incident of Everbright Securities has been the first extreme case since the establishment of the capital market in China. It has brought about many new issues in market development and regulation, and relevant quarters of the market have provided us with plenty of good advice and suggestions. We will take pains to study, digest and absorb them.
The SSE will further improve and strengthen front-line regulation and constantly perfect regulation systems and rules. We will enhance risk control measures, and ensure the safe, efficient and normative operation of the market. Meanwhile we hope you all continue to care for and support our work. Thank you very much.
SSE’s official micro-blog at Sina: http://e.weibo.com/chinasse
SSE’s official micro-blog at Tencent: http://e.t.qq.com/sse