China Stocks Slump Over 10% Post-Intervention: Derivatives Dealers Reveal $150 Billion In "Questionable" Exposure

"Right now, dealers are going through their books trying to work out what their positions are worth," explains a major participant in the Asian derivatives market as Reuters reports the suspension of hundreds of mainland China stocks has created disputes between banks and their clients over the valuation of billions of dollars of equity derivatives. "In the end, someone is going to have to call the value of those deals, and someone else will lose out," and with over 1000 stocks still suspended, and Chinese stocks now 12% off post-intervention highs, ISDA - the body that represents the world's largest dealers - is worried that at least $150 billion of outstanding OTC equity derivatives on mainland-listed shares may not have the appropriate language to deal with these events. After 3 days of "you will never learn" rises, margin debt declined following China's great data last night and the continued good news is bad news sell off today.

  • *PBOC TO INJECT 20B YUAN WITH 7-DAY REVERSE REPOS: TRADER

Post-intervention, there is some "malicious selling" going on...

  • *FTSE CHINA A50 JULY FUTURES DECLINE 0.6%

China's "Dow"...

 

And CSI-300 (China's "S&P 500") is now down over 12% from the post-intervention highs...

 

As after 3 days of "you will never learn" rises...

  • *SHANGHAI MARGIN DEBT DECLINES FIRST TIME IN FOUR DAYS

And last night's data pushed China's debt-to-GDP to record highs...

 

But a far bigger risk looms, as Reuters reports,

The suspension of hundreds of mainland China stocks during a market plunge from mid-June could lead to disputes between banks and their clients over the valuation of billions of dollars of equity derivatives.

 

Banks dealing in derivatives are concerned that valuation terms covering market disruptions in other Asian markets, such as trading halts when stocks move up or down by the exchange's daily range limits, might not apply to the wave of stock suspensions in China.

 

...

 

Dealers have written at least $150 billion of outstanding over-the-counter (OTC) equity derivatives on mainland-listed shares, according to estimates by Shanghai-based investment consultancy Z-Ben Advisors.

 

"It's not yet clear if the existing disruption event language for other Asian jurisdictions can be applied to China or how the existing disruption definitions for limit-up, limit-down would apply to suspended stocks," said Keith Noyes, regional director, Asia Pacific, at the International Swaps and Derivatives Association (ISDA), which represents the world's largest derivatives dealers.

And for those who proclaimed the surge in China stocks a victory, think again...

"There could be wrangling over issues such as whether the Shanghai composite index closing price, which would generally be the easiest to use to value contracts, is a good price or a disrupted price, given that so many stocks are now suspended," said Noyes.

 

"Right now, dealers are going through their books trying to work out what their positions are worth," said Adam Sussman, head of execution and quantitative services at international brokerage Liquidnet. "In the end, someone is going to have to call the value of those deals, and someone else will lose out."

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We know who...