Li Sanxian / Reuters

China suspends markets after stocks tank

Sharp drop in China ripples through markets in Europe and the US

Stocks fell around the globe on the first trading day of 2016 as investors dumped shares on new fears of a Chinese economic slowdown and more turmoil in the Middle East. The Dow Jones industrial average sank 2 percent, following even sharper declines in Asia and Europe.

The trouble started in China on Monday after weak manufacturing data in the world's second-largest economy sent the Shanghai Composite Index plunging 6.9 percent to its lowest level in nearly three months.

The drop led stock markets in Shanghai and Shenzhen to halt trading for the remainder of Monday to avert steeper falls, the official Xinhua News Agency said. It was the first time China used the "circuit breaker" mechanism it announced late last year.

Monday’s collapse, which followed the release of weak economic data, raises fresh doubts about regulators' capacity to wind back heavy trading restrictions implemented in the wake of a massive summer stock crash in which major indices lost as much as 40 percent before top leadership intervened.

The selling in China spread quickly across markets in Europe. The DAX index in Germany, whose export-led economy is sensitive to the fortunes of China, tumbled 4.3 percent. Britain's FTSE 100 fell 2.4 percent while France's CAC 40 dropped 2.5 percent.

In the U.S., the Dow Jones industrial average sank 384 points, or 2.2 percent, as of 12:44 p.m. Eastern time. The Nasdaq composite gave up 140 points, or 2.8 percent.

Meanwhile, analysts attributed the decline in China to the imminent end of a six-month lockup period on share sales by major institutional investors, a policy implemented to shore up indexes in the wake of the crash.

“This is quite unexpected,” said Gu Yongtao, a strategist at Cinda Securities. “The slump apparently triggered intensified selling, while the trigger of the circuit breaker seems to have heightened panic, as liquidity was suddenly gone and this is something no one has experienced before. It was a stampede.”

Haitong Securities analysts had earlier estimated that up to 1.24 trillion yuan’s worth of shares would be freed up for sale by next Monday, assuming the lockup period is not extended.

Confidence dashed

China's response to the summer market crash was seen by many inside the industry as heavy-handed, as it included suppression of futures and derivatives markets and instilled an atmosphere of fear at brokerages as regulators pulled in executives for questioning about insider trading and malicious short selling.

While that stabilized indexes, it also suppressed volumes and poured cold water on foreign investors, who began moving out of Chinese shares.

However, authorities recently showed signs they believed indexes had stabilized, in particular by allowing initial public offerings to resume in November, a vote of confidence, given it was a flood of IPOs that was blamed for setting off the crash.

The circuit breaker mechanism, which halts trade for 15 minutes if the CSI300 index falls or rises 5 percent or more in a day, then suspends trade for the day if it continues to fall or rise at least 7 percent, is a new measure that came into effect Monday and was put to test immediately.

Chinese individual shares had already been subject to a 10 percent intraday trading range.

However, Monday's performance caused some analysts to doubt the efficacy of the new measure.

“Without the circuit breaker mechanism, the market wouldn't have dropped so much,” said David Dai, a Shanghai-based investor director at Nanhai Fund Management. “The mechanism deepened investor panic and limited trading.”

He added that the circuit breaker would actually embolden market bears, as they don't have to worry about a late-session rebound. “This mechanism should be scrapped or at least modified,” he said.

Market reforms put on hold by the crash could be delayed further if the circuit breaker fails to halt selling pressure and markets — which had recovered more than 25 percent from the pit of the crash before Monday's correction — head lower again.

A selloff could pressure stock regulators to refreeze IPOs to preserve liquidity, to extend the share lockup to prevent more selling and keep the national team of brokerages and fund management firms on the hook to keep buying and holding stocks at a loss.

It could also further dent confidence in the China Securities Regulatory Commission and of the wider financial regulatory framework to manage increasingly complex markets even as China's economy struggles against major headwinds.

Another retreat would likely bolster the case for the creation of a superregulator that would step to manage the commission and other related regulators to improve coordination.

Wire services 

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