Published On: Fri, Nov 25th, 2011

Trading Houses Face Overhaul by Government

Electronic trading houses, which conduct transactions in commodities, artifacts and precious metals, have seen their numbers grow in the past five years from a few dozen to more than 300.

But the boom could come to an abrupt end as the government pursues a drive against risky practices in the industry.

This week, the State Council determined that these legal and illegal trading houses are too risky to be left unregulated. The council called on the China Securities Regulatory Commission (CSRC) to “clear them up”.

Rules bar the trading houses from making markets and adopting centralized pricing and say that no more than 200 investors may hold stakes in any single traded asset. Investors are also banned from reselling an asset within five days.

Although the government said that some of the trading houses’ activities are illegal, it didn’t specify which transactions are involved.

This isn’t the first time that the government has found fault with the trading houses. In 2009, the State Administration for Industry and Commerce “banned” the establishment of new trading houses, and last year, the Ministry of Commerce and five other ministries issued regulations on securitized trade houses.

But this latest move is a more serious threat to the trading houses. First, it is being initiated at a higher level, by the State Council. Second, the government is using the phrase “clear up and reorganize”, not “regulate” – meaning that some trading houses might have to close.

Hantang Artworks Exchange was one of the first trading houses to react. In a statement on Tuesday, the exchange said it will stop using centralized pricing and limit participants’ trading frequency.

Fei Jian, chairman of Shanghai Agricultural Products E-Business Co Ltd, a trading platform for agricultural products, said his business is in full compliance with the rules and welcomes the cleanup.

“We made changes early in 2009 to comply with the regulations. Having the sector regulated is good for everyone,” he said.

The scale of the trading houses’ business isn’t known. The houses aren’t required to disclose transaction data. Additionally, their fast growth and the fact that some of their activities are illegal make it difficult to calculate the industry’s size.

The trading houses pose risks, with an absence of clearinghouses, ever-changing trading rules and price manipulation.

But investors’ collective intelligence is unlikely to have ignored or missed these risks. Thus, some experts said, if regulators really want to establish financial stability, they need to figure out what needs the exchanges fulfill.

Hu Yuyue, head of Beijing Technology and Business University’s securities and futures research center, said the answer can be summed up in one word: demand.

Hu said many trading houses have sprung up because investors need more financial tools than are being provided by the major, approved futures exchanges, such as the Shanghai Futures Exchange, Zhengzhou Commodity Exchange and China Financial Futures Exchange.

“The futures exchanges in China are well-regulated but relatively underdeveloped. So they lack new products and systems to satisfy investor demand,” he said. “That has resulted in the boom of unregulated trading houses.”

In the first 10 months of this year alone, 58 trading houses were established.

Three bourses were set up in the city of Wuhan in just a week: the Wuhan Shipping Exchange, the Wuhan Financial Assets Exchange and the Wuhan Agricultural and Livestock Products Exchange.

One factor driving the formation of the new trading venues is the surge in liquidity caused by the 4 trillion yuan ($631 billion) stimulus package enacted in 2008 amid the global downturn.

The private-sector credit crunch has also driven capital into the trading houses, as some entrepreneurs abandon their businesses for the financial market.

Fei said that the trading houses do face a shake-up, but strong investor demand will keep the sector developing.

Source: China Daily

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