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China's approval of short sales and stock index futures paves the way for foreign investors to bet on a convergence in valuations between Shanghai and Hong Kong.
The China Securities Regulatory Commission cleared the overhaul of trading laws on Jan 8 that will also permit buying equities with brokerage loans. The rules apply to mainland residents and the 94 international institutions authorized for mainland trading by the government.
Allowing investors to profit from share declines will make trading more efficient in the mainland and may eventually reduce the valuation gap with Hong Kong, where an index of mainland-based companies is priced at a 38 percent discount, according to ING Groep NV.
Amsterdam-based ING, the largest Dutch financial services company, was approved to invest in mainland local-currency stocks and bonds under the qualified foreign institutional investor, or QFII, program in 2003. Schwartz said he doesn't short sell a stock or do arbitrage.
"I would do the trade immediately if I could," said Michael Cheah, who manages $2 billion at SunAmerica Asset Management in Jersey City, New Jersey. "The real test will be when we have a sell-off, will they suspend shorting?"
The Shanghai Composite climbed 0.5 percent to 3212.75 yesterday, after rising as much as 3.5 percent, its biggest gain in three months.
Index futures may help ease fluctuations in the world's third-largest equity market by value after the Shanghai Composite doubled in 2007, then slumped 65 percent in 2008 before rebounding 80 percent last year.
The mainland stock market will become "more rational" with the introduction of stock index futures, margin trading and short selling, Deutsche Bank AG said in a report.
The first stock index contracts, based on China's CSI 300, may begin trading after the annual session of China's National People's Congress in March, an official with knowledge of the matter said.