China equity bull run raises bubble fears

China's bull run showed little sign of abating the week, with stocks finishing at a new seven-year high on Friday despite a weakening economy and rising fears of an equity market bubble.

The Shanghai Composite closed at 4,287 points after gaining 2.2 per cent on Friday, its highest since March 2008. The index is now up a third since the start of the year, and has doubled over the past 12 months. The Shenzhen Composite added 0.5 per cent.

China's domestic stocks - known as A shares - have been the best performers in the world this year, as local retail investors bet on further monetary easing from Beijing to boost flagging growth.

Earlier this week, China reported that its economy grew 7 per cent in the first three months of the year, the lowest quarterly figure since the financial crisis. Many analysts expect the People's Bank of China to respond with rate cuts and stimulative measures, something likely to add more fuel to the equity market fire.

"The stock market seems to have already digested the relatively poor economic figures and it is clearly waiting for the announcement of policy stimulus," said Gerry Alfonso at brokerage Shenwan Hongyuan in a note.

China's rally spilled beyond its borders earlier this month, sending the Hong Kong stock market to its highest since 2007 and pushing trading volumes in the city to a record.

However, activity cooled over the past few days, with the Hang Seng market gaining just 1 per cent through the week. As a result, the valuation gap between Hong Kong and Shanghai stocks has widened once again, with mainland shares now typically trading at a 29 per cent premium.

Some analysts see the sharp run-up in Chinese stocks as a deliberate government policy to boost sentiment, increase wealth, and offer an alternative destination for investment from the oversupplied housing market.

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This week also saw two regulatory moves that expand investors' ability to make bearish bets on Chinese equities.

On Thursday two new equity index futures debuted on the China Financial Futures Exchange, exactly five years after the launch of China's first equity futures product, based on the CSI 300, which tracks the largest firms traded in Shanghai and Shenzhen.

A new product based on the CSI 500 index - comprised of small and mid-cap shares - offers the first futures product that can be used to bet against smaller companies. The other new futures product is pegged to the large-cap Shanghai Stock Exchange 50 index.

On Friday, China's two stock exchanges announced they were expanding the number of shares eligible for short selling to 1,100, up from around 900 previously. They also permitted mutual funds and private asset management plans to lend securities to short sellers.

China originally launched securities lending in 2010, but the programme has been little used due to the scarcity of shares available for borrowing.

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