One of the comments I have been getting on our recent series comparing the China market swing and the NASDAQ Tech Bubble’s fallout has been the difference in political reactions to the two market falls. Yes, it is true: some of the moves by the Chinese in reaction to their market’s fall have little precedent in modern markets – but to insist that American markets have no comparison is… wrong. Just witness market circuit breakers!
More appropriately, the American reaction to the technology market fall (and recession) is best described as a more hands-off approach – at least until some of the decisions made just 8 years later when it was financials, not technology stocks, leading the fall. Summarized in a tweet, the difference between the US reaction in 2000 and 2008 was this:
@dataPK Sadly, no dot com bailout.
— Marc Andreessen (@pmarca) July 15, 2015
Indeed – but we’ll get to that. I don’t claim expert status on this topic, but hopefully my summary will inspire some actual experts to tie these threads together and fill in the blanks so new entrants to the field can better understand the social, corporate, and political reactions to the two falls.
Chinese Market Reactions
There are many government reactions to the Chinese stock market swoon, at least from what we can tell not-yet-30 trading days after the peak (remember, we can only label the market action in retrospect). There also is a mechanism in place in China where individual companies can freeze trading of their shares – a right virtually unparalleled in the United States (we’ll get to that).
Here’s a list of the major reactions so far:
- Limit or ban to short selling (including the threat of jailtime for short sellers)
- Stopped IPOs
- Froze trading on most of the market
- Heavy marketing by state-owned media for individuals to buy shares
- Banned large shareholders and insiders from selling stock for the next 6 months
There is also a ‘circuit breaker’ on individual stocks in China (strangely not mirrored in Hong Kong, even for multiply listed companies), which kicks in when stocks move too quickly to the upside or downside. Combined with shares that have frozen due to company demands, you’re looking at a very high percentage – over 50% – of stocks which have halted trading in the recent past.
These reactions are much more than the US markets have ever seen, but let’s go over a few parallels.
Ban on Financial Short Sales
In September of 2008, the SEC banned sales of roughly 800 financial stocks in the United States. Interesting, too, was the rhetoric that came along with the package – crediting manipulators and speculators for the necessity of the new rules.
That rhetorical flourish is, of course, common during market falls – we don’t have the ‘vulture’ imagery in the US anymore (as in, say, Argentina)… but it is common to blame speculators and vile forces for a market fall.
The short sale ban lasted from 9/20 through 10/8. There wasn’t a parallel restriction during the technology bubble, however.
While there wasn’t a directly comparable restriction on IPOs in the US, there is a very relevant entry in the US’s market history – the Sarbanes-Oxley Act of 2002.
Ostensibly enacted in response to some of the more famous bankruptcies of the dot-com era, it has undoubtedly reduced the number of IPOs in the United States. While the number hasn’t gone to zero, it has certainly had interesting effects in the pre-IPO process: elevating the importance of Private Equirty, Angel and Venture investing and contributing to an interesting situation today where there are at least 100 “Unicorn” non-public companies with a valuation north of $1 Billion.
Whether that’s a desired situation or not is up for debate – but in the “this is too restrictive” corner is the so-called JOBS Act provision directing the SEC to rethink crowdfunding. That’s right – in 13 years we’ve gone from Sarbanes-Oxley’s new accounting demands for public companies, to a backdoor way for the public to invest in companies again not subject to provisions of Sarbanes Oxley.
This one will be interesting to watch.
Trading Freezes and Circuit Breakers
There have been circuit breakers in place on stock markets in the US for quite some time, with limits decided by the exchanges. Here, for example, is the NYSE’s circuit breaker page – defining what will happen for 10%, 20%, or 30% drops in the NYSE. There is also plenty of precedent for market closures due to outside events – most prominently, the NYSE’s closure for World War II’s start and immediately after the September 11 attacks. There are, of course, also glitches that can halt trading on the various exchanges – including as recently as the NYSE on July 8th.
As for “individual companies halting trading” there is really no comparison in the United States. I searched many places for information on this topic and came up mostly empty – if you have good information, please let me know and I’d love to follow up further, but I will share what I found.
First, individual shares do get halted (but you knew that!) – both for legal reasons (separate topic!) but also for market related reasons. Here is, for example, the NASDAQ page listing the reasons a stock might be halted. The SEC also explains that stocks can be halted for liquidity reasons (to match buyers and sellers) but also mentions a situation where companies that have pending news can ask for a halt. On the liquidity concern, it’s a secondhand source but that was the justification for the Enron trading halt.
Second, the exchanges can halt trading on individual shares due to ‘strange’ trading patterns. On the NASDAQ, that rule was controversially passed by the NASD in 1999 during the technology bubble’s run-up due to the sudden increase in the popularity of day trading. (Briefly, liquidity can be a curse or a blessing – while driving down bid/ask spreads, electronic trading can also cause the bottom to fall out of a stock relatively quickly. It’s something like “A lie will go round the world while truth is pulling its boots on.” measured in nanoseconds!). This justification lead, famously, to the halt in the Emulex stock manipulation case. It also happens occasionally when traders trade the wrong ticker (and some trades even get reversed).
And, most recently (2013!) exchanges started allowing circuit breakers on individual stocks algorithmically. Here is an interesting flyer on the NASDAQ explaining some of the details. The relevant information is that the circuit breakers kick in at 30% for stocks over $1, and 50% below.
Whew, that’s a lot of information dumped for an unclear answer – but, the truth is, halts are relatively rare. There are thousands of publicly traded companies in the United States, and in a year you’re talking maybe hundreds of halts of on average an hour according to some research out of Notre Dame in 2002.
Yes, individual stock halts just aren’t a major factor in the United States, but they aren’t non-existent, either. This is an interesting topic, though – please share your research!
Insider Sale Bans
This is an obvious one – you’re not allowed to trade on non-public information in the United States. Of course, it’s a matter of degrees – insiders are allowed to trade, usually during so-called trading windows. Banning insider trading is a pretty popular provision – and when the rules are unfairly applied (or not at all), it is unpopular amongst the public. Reference, for example, the controversy around alleged insider trading by Congress around the financial crisis – which continues to this day.
Regardless of insider trading laws, trading by insiders is generally allowed during the aforementioned trading windows. Also in that note, notice a company can hang a lampshade on confidential information so there is no confusion about what nugget is actually confidential.
As for bans on large owners, the US does mandate disclosure for positions over 5% in public companies.
That said, there is really no parallel to the current policies in China – all of our restrictions are relatively minor in the grand scheme.
So, yeah, it isn’t exactly black and white when it comes to policy and rulemaking restrictions in the two different markets, even if the mechanisms themselves are a bit different (for example, the de facto vs. de jure IPO reductions).
Other characteristics of the markets are surely different too, and deserve mention. The US may not have bailed out companies after the Technology collapse, but they certainly established new precedents in the wake of the financial collapse in 2008.
Controversially, too, some differences in the US are related to how individuals investors are treated – note that provisions enacted in the wake of 2008 like the $250,000 FDIC insurance limit increase (from $100,000) didn’t come from a populist uprising. Only roughly the top 30% of American households even claim a total net worth of $250,000.
Furthermore, there are additional restrictions on non-insiders sometimes between complicated vesting schedules and overly long lockup periods on IPOs (one of the controversies of the 2000s tech boom was that employees during an IPO might have to wait 18 months to sell shares(!)). And, yes, of course, there is a lot of controversy over the taxation of so-called “Carried Interest“, a benefit that doesn’t accrue to the average employee or investor.
There’s really too much here for a single article, and even our ~1,000 deep archive doesn’t cover everything here – we left out an entire article or two worth of bailouts. So, please feel free to share other interesting characteristics of the two markets!
China and the United States
When I wrote the first piece on this China/NASDAQ comparison, I repeated that quote that history doesn’t repeat itself, but it does rhyme. I just laid out a lot of the details that explain – or define – the differences between the market and political difference in the United States and China. We’ll never find a perfect proxy (and perhaps, even if you could time travel you couldn’t change anything anyway), so you’ve got to do the best you can with the context you’re presented. That is, of course, if you think there is a shoe yet to fall in China. Personally, I outsource my non-US investing to the investment managers of ETFs and Mutual Funds – so I’m not the best one to ask.
So, please, let us know what you think about the conditions of the two markets, and share any relevant research – we’re interested!