Here are the reasons China’s equity rout is getting even worse

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Updated: October 26, 2018 6:16:35 PM

Another hit to sentiment came in the past two days, when quarterly statements showed five funds linked to the Chinese government sold all their stock holdings.

Here are the reasons China’s equity rout is getting even worse

Chinese equities have already lost $3 trillion in market value since January, and hopes for better days ahead are fading. Anyone counting on a breather in this year’s final stretch got slapped with another 7.9 percent drop for the Shanghai Composite Index so far in October. That sets the gauge up for one of its worst annual performances ever, behind a 65 percent meltdown at the height of the global financial crisis in 2008, and nearing the 22 percent slumps seen in 2011 and 1994. China ranks among the world’s worst places to own shares in 2018.

Reasons to flee the nation’s stocks have piled up this year, starting with a liquidity squeeze spurred by China’s deleveraging campaign that’s led to record bonds defaults and hurt economic growth. Add to that a worsening trade war, rising interest rates and the strong U.S. dollar souring the outlook for emerging-market assets, and Chinese stocks are now facing a downward spiral made worse by the billions of dollars of shares at risk of forced selling.

Here’s a look at everything that’s weighing on sentiment:

Shadow financing, which includes entrusted loans, trust loans and bank acceptances, is getting worse. Its outstanding volume shrank for a seventh straight month in September, reaching its lowest since January 2017. A government-orchestrated campaign to cut leverage has squeezed private companies that relied on such funding channels, as banks have curbed lending.

Another hit to sentiment came in the past two days, when quarterly statements showed five funds linked to the Chinese government sold all their stock holdings. That prompted speculation about whether Beijing will help put a floor on equity prices, with investors wondering if the move suggests its so-called “national team” is withdrawing from the market.

There’s also the threat coming from brokers and banks, which account for more than half of the $640 billion of shares pledged for loans. The stock rout may force lenders to sell equities, accelerating a vicious circle.

The strength in the greenback — the Bloomberg Dollar Spot Index hit its highest level since June 2017 this week — has also been a key reason of concern. That’s prompted an exodus from emerging-market assets and increased pressure on the yuan. In the latest sign that capital outflows are picking up, Chinese banks sold the most foreign currency to their clients since December 2016, data by the State Administration of Foreign Exchange showed Thursday.

It doesn’t help that markets around the globe are sinking, giving stock investors nowhere to hide. In the U.S., tech shares have been pummeled, with companies including Inc. and Google parent Alphabet Inc. being the latest to give disappointing earnings results. Equities worldwide have lost about $7.8 trillion in market value this month alone, and $15 trillion since January.

That’s all added up to a turbulent ride for Chinese stock traders: The Shanghai Composite Index is on track to post its wildest average intraday move since January 2016 this month. Investors have rushed to hedge against swings, pushing the number of options linked to an exchange-traded fund tracking Shanghai’s SSE 50 Index to levels never seen before.

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