Earlier this week in “Presenting China’s Plunge Protection Playbook [14],” we brought you the following annotated chart, which documents all of the steps Beijing has taken over the last two weeks in a frantic attempt to stabilize its equity markets which are in the midst of an epic meltdown catalyzed by an unwind of the margin mania that helped propel Chinese stocks into the stratosphere over the past 12 months.
That chart was created just two days ago and indeed, China hasn’t let up on the plunge protection accelerator one bit since then.
On Wednesday for example, Beijing banned selling [16] by major shareholders and corporate directors and when trading got off to yet another rocky start on Thursday (despite the fact that half the market isn’t even trading), the Politburo decided it was time to arrest the slide by literally “arresting [17]” the slide. Here’s what happened overnight:
[Ministry of Public Security in conjunction with the recent Commission investigation of malicious short stock and stock index clues ] correspondent was informed on the 9th morning , Vice Minister of Public Security Meng Qingfeng led to the Commission , in conjunction with the recent Commission investigation of malicious short stock and stock index clues show regulatory authorities to the operation of heavy combat illegal activities .
Or, in English:
Special workforce to be led by Vice Public Security Minister who vows to soon nail down those who manipulate Chinese stocks, index futures
— George Chen (@george_chen) July 9, 2015 [18]
And visually:
I didn't sell. I swear I didn't!!!! pic.twitter.com/jEi0hYrUkm [19]
— Fed Porn (@FedPorn) July 9, 2015 [20]
Sending a thinly veiled threat to anyone evil enough to consider selling shares seems to have been fairly effective, as the SHCOMP had its best day [21] since March of 2009 on Thursday, rising nearly 6%.
Be that as it may, this latest act of sheer desperation out of Beijing likely won’t stop the bleeding for long, and we suspect the selling may continue to mount over the short-term as the country’s millions of newly-minted and now completely disenchanted day traders look for any excuse to sell the rip, break even, and go back to “farmwork [22].”
In short, the plunge protection program is likely to prove just as ineffective in China as it did in the US after Black Thursday...

...meaning the stock market will cease to serve as a much needed distraction from the country’s decelerating economy and collapsing real estate bubble.
With all of the above in mind, consider the following from Deutsche Bank who is out with some “sweet and sour” lessons for China derived from the “one-man plunge protection team” which came to the rescue in the US after the ‘87 crash.
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From Deutsche Bank
The '87 US plunge protection team: sweet & sour lessons for China
Unlike 1987 when Greenspan was a one-man plunge protection team using rate cuts to support the market, China has fewer constraints to substantive direct price keeping operations, but there are strong arguments against actions going beyond smoothing activity.
The PBOC is struggling with ‘the holy trinity’ - maintaining a currency peg for stability, targeting interest rates and RRR directed at the real economy, providing equity support, and all this while attempting to liberalize interest rates and open the capital account. It’s a tall ask. Internationalization of the currency should be slowed.
The sweet
1) The slide in Chinese equities has some characteristics of the US 1987 crash in so much as ’the October crash’ in 1987 unwound relatively short-term gains mostly established in the prior 10 months. As per Figure 1, the one-year prelude to the 1987 US crash showed a similar pattern to China equity gains, albeit Figure 2 also shows how China’s equity appreciation was much larger than the US gains that immediately preceded the 1987 crash. The important point is the equity surge was relatively shortlived, so there never was quite enough time for a feedback loop to develop from higher asset prices driving a stronger real economy driving the asset bubble ever higher. The real economy implications are not as acute when a short-lived bubble pops.
2) Remember the mythical ‘plunge protection team’. The market has consistently spoken about how the 1987 crash prompted the creation of a ‘crisis group’ of senior US officials that would draw up lines of support for the equity market if faced with a similar collapse in equity prices. For better and worse, China is much more willing and has fewer constraints on official intervention, and the role of the PBOC funding China’s Securities Finance Corp as a source of support notably for a small cap stocks, at a minimum has the prospect of smoothing any price decline.

1) The flip side of any official equity intervention, and as important the recent suspension of trading in some shares, is the obvious lack of transparency. This has resulted in good stocks/assets being sold to hedge illiquid asset exposure that itself destroys confidence even as it creates good value for select equities. China has the resources to support the equity market in the shortterm, but there are inherent problems in artificially supporting prices. It undermines the markets confidence that a base has been reached, and in the long-term further distorts the allocation of capital. These are arguments why plunge protection should be no more than a smoothing facility to encourage fair price discovery.
2). The US substituted a late 1990s equity bubble with a housing bubble which did not end well. China’s experiment in substituting housing froth with equity froth, is plainly not succeeding. This all falls under the title: ‘troubles with policy traction’ that adds to China’s growth risks.
3). Collateral damage. The problems of credit creation dominated by bank lending is compounded by the sizable part of lending that is backed by property and a much smaller but substantial amount of collateral comprised of ‘movable’ assets like equities, commodities, and receivables. There is then more scope for contagion to work across asset classes and intercede directly into the banking system via the impact on collateral. This space needs to be watched closely.
4). ‘Proof’ that the PBOC is not omnipotent. Greenspan’s rate cuts immediately after the 1987 crash did seem to stabilize the situation. He was a one man plunge stabilization team, and this was in retrospect the early stages of the ‘Greenspan put’. Even this ‘put’ distortion was ultimately seen having huge costs. The PBOC is already much more stretched than the Fed ever was. They are struggling with ‘the holy trinity’ - maintaining a currency peg for stability, interest rates and RRR directed at the real economy, equity support, and all this while attempting to liberalize interest rates and open the capital account while maintaining fiscal discipline. It’s a tall ask. It would suggest that some objectives like the internationalization of the Rmb be deferred.
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The question now is whether and to what extent the equity carnage spills over into the real economy.
While the contagion effect as transmitted through the country's banks (via collateral, willingness to lend, or otherwise) is no doubt worth "watching closely" (to use Deutsche's words), it's also worth noting that given the influx of retail money into the market this year, the crash could have a negative effect on everyday people's propensity to spend and just about the last thing the country needs is for a crisis of confidence to derail consumer spending just as Xi Jinping attempts to transition China away from a smokestack model and towards an economic future characterized by services and consumption.



