China's stocks head for biggest three-day rout since June 2013

China's stocks headed for their worst three- day performance in almost two years amid speculation new share sales will sap funds, valuations have become excessive and the government will take measures to control margin trading. -- PHOTO: REUTERS
China's stocks headed for their worst three- day performance in almost two years amid speculation new share sales will sap funds, valuations have become excessive and the government will take measures to control margin trading. -- PHOTO: REUTERS

SHANGHAI (Bloomberg) - China's stocks headed for their worst three- day performance in almost two years amid speculation new share sales will sap funds, valuations have become excessive and the government will take measures to control margin trading.

Utilities and industrial companies, which posted the biggest gains in Shanghai in the past three months, led declines. The Shanghai Composite Index fell 1.4 per cent to 4,168.23 at 9:50 a.m.

China's stocks have fallen from seven-year highs as the securities regulator increased the pace of new share offerings and took action to curb leverage after a world-beating rally for the nation's equities. China Securities Finance recommended controls over margin trading and short selling at a seminar with China Securities Regulatory Commission Assistant Chairman Zhang Yujun, China Business News reported Thursday.

"For A shares, the risk-reward is deteriorating in China," said Jonathan Garner, Morgan Stanley's Hong Kong-based head of strategy for Asia and emerging markets. "It's likely to be the case where volatility will increase."

Morgan Stanley downgraded Chinese stocks for the first time in more than seven years, saying the market has become expensive after share prices surged and profitability fell to the weakest level since the global recession in 2009.

The CSI 300 Index declined 0.9 per cent. Hong Kong's Hang Seng China Enterprises Index fell 0.8 percent, while the Hang Seng Index lost 0.5 per cent. The Bloomberg China-US Equity Index retreated 1.5 per cent in New York on Wednesday.

China Securities Finance, which was created in 2011 to lend money and securities to brokerages, proposed that brokerages' outstanding margin trading and short selling shouldn't exceed four times their net capital as of the end of the previous month, and should stop lending to investors who use borrowed money to buy stocks with high price-to-earnings ratios or net losses, China Business News reported, citing an unidentified participant.

Margin traders increased holdings of shares purchased with borrowed money on Wednesday, with the outstanding balance of margin debt on the Shanghai Stock Exchange rising by 1.2 per cent to a record 1.26 trillion yuan (S$269 billion).

The Shanghai Composite has rallied 109 per cent over the past year amid speculation the government will extend interest-rate cuts and speed up mergers of state-owned firms to boost the economy. The index is valued at 16.4 times 12-month projected earnings, compared with the five-year average multiple of 10.2, according to data compiled by Bloomberg.