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Float, Liquidity, Speculation, and Stock Prices: Evidence froFloat, Liquidity, Speculation, and Stock Prices: Evidence from the Share Structure Reform in Chinam the Share Structure Reform in China
Hwang Chuan Yang Hwang Chuan Yang Nanyang Business SchoolNanyang Business School
Zhang Shaojun Zhang Shaojun Nanyang Business SchoolNanyang Business School
Zhu Yanjian Zhu Yanjian Nanyang Business SchoolNanyang Business School
2006 NTU International Conference on Finance2006 NTU International Conference on FinanceDecember 14, 2006December 14, 2006
Motivations Internet Bubble. Between early 1998 till Feb. 2000, internet sect
or prices rose over 1000%, then it collapsed in April 2000. Ofek and Richardson (2003), Cochrane (2003), Hong, Scheink
man and Xiong (2006) offer explanations. Investors have diverse views and the sector tend to have rel
atively more individual investors. Short-sale constraints (Miller (1977), Chen,Hong and Stein
(2002)) Shares are in short supply Lock-up provisions for insiders’ shares
Chinese share markets have all of these features and its split share reform provides an ideal setting for conducting out-of-sample and outside-the US market tests.
Chinese Split Share Reform Background 1 Features of China Market
Two markets: A- and B-share markets Split-share structure: 1/3 Tradable and 2/3 non-tradable
A-shares mostly owned by state owned enterprises Undesirable effect of the split share structure are that
managers don’t maximize shareholders values and that it makes take-over and merger activities impossible
Share structure reform: On April 29, 2005, the government announced a reform plan to abolish the split-share structure
Chinese Split Share Reform Background 2 Making all previous non-tradable shares tradable Non-tradable shareholders pay a consideration to tradable
shareholders to exchange for the liquidity of their shares; an early reform failed in which tradable shareholders were not paid
Non-tradable Shareholders
TradableShareholders
Additional value from improved liquidity
Consideration received
Consideration paid
Chinese Split Share Reform Background 2Steps in implementing the reform:
Bonus shares immediately tradable; lock up period for other shares.
Full Name BEIJING TONGRENTANG CO., LTD
Security Short Name TongRenTang
Security Code 600085
List Exchange Shanghai Stock Exchange
Major Products Traditional Chinese medicine and cosmetic
Share Structure Reform Process
Date Milestone Share Price
(RMB)
Start of restructuring
(D0) 2005-10-15
Share structure reform announced; Non-tradable and tradable shareholders held
64.19% (state-owned) and 35.81% of total shares respectively.
20.38
2005-10-17
Share trading suspended; Draft reform plan published; Non-tradable shareholders pay tradable
shareholders 0.22 shares for every share held by tradable shareholders.
First trading suspension
period
2005-10-26
Revised reform plan confirmed; Non-tradable shareholders pay tradable
shareholders 0.25 shares for every share held by tradable shareholders.
D1 2005-10-27 Share trading resumed 19.90
D2 2005-11-10 Rights of receiving the bonus shares recorded 19.92
2005-11-11 Share trading suspended
2005-11-18 Online voting starting
2005-11-22 Online voting ending Second trading
suspension period
2005-11-25
Plan implemented; Non-tradable and tradable shareholders held
55.24% (state-owned) and 44.76% of total shares
End of restructuring
(D3) 2005-11-30
Share trading resumed; All shares held by tradable shareholders,
including the bonus shares received, can be traded freely;
All shares held by non-tradable shareholders can be traded only after 1, 2, or 3 years.
15.40
Our Contributions to the Literatures
Speculative Bubbles
Ofek and Richardson (2003), Cochrane (2003), Hong, Scheinkman and Xiong (2006): diverse beliefs, short-sale constraint and limited supply have contributed to the internet bubble.
Would the same factors lead to speculative bubbles in other markets?
It is much harder to detect speculative bubbles without seeing the bubbles collapse. With the data from split share reform, we show there is bubble in the Chinese share market.
We show that split share reform has dampened speculation. Furthermore, we show that price drop and the decrease in speculative activity is larger for more speculative firms.
Our Contributions to the Literatures
Shape of Demand Curves
Scholes (1972): there are perfect substitutes for assets hence demand curve is horizontal (perfectly elastic).
Harries Gruel (1996), Shleifer (1996), Lynch and Mendenhall (1997): Prices rise when stocks are added S&P 500 index indicating demand curve is downward sloping.
Field and Hanka (2001), Ofek and Richadson (2000): When the IPO lock-up provisions expire, stock price drops indicating demand curve is downward slopping.
These results can be contaminated by information. Our tests are based on a regulatory change which should be f
ree of information content.
Our Contributions to the Literatures
Liquidity Premium
Silber (1991), Longstaff (1995): Restricted shares are traded at price discount relative to unrestricted shares.
Amihud and Mendelson (1991), Naik & Radcliffe (1998), Brennen, Chordia and Subrahmanyam (1998): Stocks with better liquidity are traded at higher prices hence lower expected return.
We show that the price difference between tradable and non-
tradable is larger for more liquid stocks indicating the liquidity is priced.
We show that firm values increase after the reform due to improved liquidity and the increase in firm value is larger for firms with larger improvement in liquidity.
Our Contributions to the Literatures
Chinese Stock Markets
Allen,Qian and Qian (2006): Law and economic growth.
B share discount: Illiquidity (Chen and Xiong (2001)); Market momentum (Karolyi and Li (2003)); Information asymmetry (Chan, Menkveld and Yang (2006)); Speculation (Mei,Scheinkman and Xiong (2005)).
We show that split share reform has dampened speculation and improved liquidity in Chinese stock markets.
B share price discount decreases after the reform: smaller speculation lowers A share prices while B share prices rise due to liquidity improvement.
Data
Information about share restructuring, ROA and ROE for the fiscal year ending on December 31, 2004: www.cninfo.com.cn
Stock price and trading volume: Bloomberg Till Mar. 25, 2006, 509 firms started the share structure
reform. 31 firms are still in the process of reform. 89 firms adopted a consideration package that is more complex than a simple consideration of bonus shares. IPO firms in the year before Mar. 25, 2006 and those firms whose price data are not available from Bloomberg terminal are also excluded. Final sample: 309 firms.
MethodologyMethodology - - Calculation of price premium and wealth gainCalculation of price premium and wealth gain
Relate the price premium of tradable shares relative to Relate the price premium of tradable shares relative to non-tradable share to the consideration paid by non-non-tradable share to the consideration paid by non-tradable shareholders to tradable shareholderstradable shareholders to tradable shareholders
EquationsEquations
1 2 1 10 2 20( ) ( )Z N N P N P N P
101211 )( PNPNbNZ
202222 )( PNPNbNZ
)()( 20210121 PNPNPNNZ
MethodologyMethodology- Continued- Continued
Model Assumption: Model Assumption: Total gain is shared by non-tradable and tradable Total gain is shared by non-tradable and tradable
shareholders in proportion to the number of shares they shareholders in proportion to the number of shares they own after reformown after reform
ZNN
NbNZ
21
211
ZNN
NbNZ
21
222
20 10
10
P PL
P
baba
bL
202121 )1()( PNLNPNNZ
202
201010 )1()1()1()1( PabPaaPaabPaa
Methodology- Continued
We use one-year average of the daily dollar trading volume prior to the reform to proxy for the degree of speculative activity. Mei, Scheinkman and Xiong (2005) use daily turnover.
We use the proportion of no-price-change days of a stock over one-year period prior to the reform (Lesmond, Ogden and Trzcinka (1999)) as a measure of liquidity. Bekaert, Harvey and Lundbald (2003) has found this measure particularly useful in emerging markets.
Table 3: Descriptive Statistics
Table 4: Liquidity Premium and Speculation Component in Tradable Share Prices
Model 1 2 3 4
Intercept 0.22 0.92
-0.19 -0.47
0.20 0.87
-0.21 -0.52
ROE -0.28b -2.17
-0.24c -1.90
ROA -0.41c -1.93
-0.35c -1.69
Return Volatility
-5.74 -1.55
-2.23 -0.62
-5.57 -1.50
-2.06 -0.57
ln(Volume) 0.03b 2.45
0.03b 2.43
ln(Market Cap)
0.04b 2.21
0.04b 2.23
Percentage of Zero Return
-1.45b -1.95
-1.58b -2.21
-1.50b -1.99
-1.62b -2.24
1/Price 0.62a 3.28
0.64a 3.31
0.65a 3.36
0.67a 3.38
Dummy -0.13a -5.17
-0.13a -4.90
-0.12a -5.05
-0.12a -4.81
Adj. R2 0.11 0.119 0.10 0.11 # of obs. 309 309 309 309
Table 5:Impact on Turnover
Speculative Trading
Test Stat.
High Low Sub-total
High vs Low Speculation
# of obs. 87 61 148 Mean -1.028 1.370 -0.039 -2.76a High Median -0.068 1.238 0.239 -3.32a # of obs. 61 87 148 Mean 0.557 0.964 0.796 -0.91
Liquidity
Low Median 0.388 0.923 0.768 -1.99b # of obs. 148 148 296 Mean -0.375 1.131 -3.05a Sub-total Median 0.136 0.968 -4.01a
Mean -2.14b 0.80 -1.67c Test Stat.
High vs Low Liquidity Median -1.81 0.18 -1.72c
Table 6: Impact on Speculative Trading
Speculative Trading
Test Stat.
High Low
Sub-total
High vs Low Speculation
# of obs. 87 61 148 Mean -0.330 1.921 0.597 -3.98a High Median -0.054 1.581 0.550 -3.70a # of obs. 61 87 148 Mean 0.738 1.458 1.162 -1.33
Liquidity
Low Median 0.670 1.443 0.916 -2.21a # of obs. 148 148 296 Mean 0.110 1.649 -3.75a Sub-total Median 0.204 1.475 -4.29a
Mean -1.79c 0.80 -1.35 Test Stat.
High vs Low Liquidity Median -1.45 0.33 -1.24
Table 7: Impact on Price and the Downward Sloping Demand Curve
Speculative trading Test Stat.
High Low Sub-total High vs Low speculation
# of obs. 90 65 155 Mean -14.01% -8.70% -11.78% -1.83c High Median -14.54% -11.81% -13.20% -1.90c # of obs. 64 90 154 Mean -16.68% -10.54% -13.09% -2.10b
Liquidity
Low Median -19.64% -13.05% -15.76% -2.56a # of obs. 154 155 309 Mean -15.12% -9.77% -2.59a Sub-total Median -17.16% -12.58% -2.89a Mean 0.81 0.70 0.63
Test Stat. High vs Low Liquidity Median 1.14 0.79 0.91
Table 8: Further Evidence of the Downward Sloping Demand Curve
Model 1 2 3 4
Intercept -0.13a -12.06
-0.13a -12.08
-0.13a -12.12
-0.13a -12.14
b -0.46a -2.57
-0.48a -2.72
-0.46a -2.55
-0.48a -2.69
ROE -0.14 -1.14
-0.18 -1.43
ROA -0.24 -1.08
-0.30 -1.37
Return Volatility 1.32 0.46
-2.37 -0.76
1.36 0.47
-2.30 -0.74
Ln(Volume) -0.03a -2.68
-0.03a -2.65
Ln(Market Cap) -0.04a -3.01
-0.04a -2.99
Percentage of Zero Return
-1.09 -1.33
-0.97 -1.21
-1.11 -1.37
-0.99 -1.25
1/P 0.09 0.53
0.06 0.39
0.09 0.60
0.07 0.46
Dummy 0.05 1.18
0.04 1.08
0.05 1.30
0.05 1.22
Adj. R2 0.04 0.04 0.04 0.04 # of obs. 309 309 309 309
Table 9: Impact on Shareholder Wealth
Speculative Trading Test Stat.
High Low
Sub-total
High vs Low Speculation
# of obs.
90 65 155
Mean 13.29% 21.07% 16.56% -2.02b High
Median 12.07% 16.93% 14.95% -2.16b # of obs.
64 90 154
Mean 7.01% 17.36% 13.06% -2.85a
Liquidity
Low
Median 3.11% 14.37% 10.86% -3.09a # of obs.
154 155 309
Mean 10.68% 18.91% -3.07a Sub-total
Median 7.83% 15.69% -3.39a Mean 1.50 1.11 1.29
Test Stat. High vs Low
Liquidity Median 1.57 1.05 1.33
Table 10: Wealth Gain and Liquidity Improvement
Raw wealth gain (price 30
days later) Raw wealth gain (price of
the first day) Model 1 2 3 4 5 6
Intercept 0.13a 7.33
0.03a 1.84
0.22a 10.17
0.10a 6.05
0.02a 1.22
0.17a 9.28
Change in Turnover 4.75a 4.84
2.98a 3.31
Change in Dollar Volume
0.19a 10.02
0.14a 8.63
Change in Percentage of zero
returns
-2.59a -3.88
-2.24a -4.06
ln(Volume) -0.04 b -2.45
0.01 0.73
-0.03 -1.56
-0.03b -2.35
0.00 0.21
-0.03 -1.31
Dummy 0.07 1.11
0.07 1.17
0.08 0.93
0.07 1.26
0.07 1.33
0.09 1.13
1/P 0.05 0.30
-0.05 -0.30
0.61b 2.40
0.09 0.60
0.01 0.07
0.54b 2.32
Adj. R2 0.084 0.232 0.115 .057 0.184 0.116 # of obs. 309 309 188 309 309 188
Table 11: Impact on B Share Market
Panel A. Change in turnover and share price in the B-share market
Panel B. Change in B-Share Discount
Change in turnover Change in price
Restructured Control Test Stat.
Restructured Control Test Stat.
# of obs. 27 32 27 32 Mean 169.69% 73.93% 2.06b 21.90% 10.86% 1.49
Median 132.12% 53.99% 2.08b 18.86% 6.25% 1.59 Std. Dev. 229.67% 80.57% 28.67% 28.05%
Min. -62.52% -41.70% -25.48% -31.13% Q1 29.78% 17.89% -0.86% -9.22% Q3 229.34% 117.68% 45.86% 30.44%
Max. 1142.03% 308.54% 77.33% 79.71%
Before the Reform After the Reform
Restructured Control Test Stat.
Restructured Control Test Stat.
# of obs. 27 32 27 32 Mean 43.79% 43.07% 0.17 30.31% 43.45% -3.13a
Median 44.73% 44.71% 0.11 29.32% 42.66% -2.78a
Std. Dev. 14.97% 16.82% 15.99% 16.14% Min. 12.58% 4.06% 1.21% 1.38% Q1 35.63% 35.30% 17.78% 36.59% Q3 57.85% 55.53% 44.34% 57.59%
Max. 63.95% 68.60% 56.70% 69.50%
Conclusions There is a speculative bubble in the Chinese stock markets. This is consistent with
the explanation for the internet bubble in the NASDAQ market: diverse views of individual investors, short-sale constraint and limited share supply.
Chinese split share reform is successful. By increasing the share supply, Chinese split share reform has dampened speculation and improved liquidity.
The reduction in speculation is greater for stocks with greater speculation before the reform.
The improvement in liquidity is larger for less speculative stocks. B share discount is reduced significantly after the reform; A share price drops while B
share price increases even though the reform does not involve B shares. Despite of the price drop of the tradable share, shareholder wealth (firm value)
increases after the reform, and the increase is positively related to the liquidity improvement.
Demand curve is clearly downward sloping.