(Shenzhen Daily)
Updated: 2007-07-02 08:40

The mainland’s main stock index tumbled more than 2 percent Friday, ending June with its biggest monthly loss since May 2005, because of fear that government policies would suck funds from the market.

The Standing Committee of the National People’s Congress approved Friday US$200 billion worth of special yuan bond issues to fund China’s new overseas investment agency. It also authorized the State Council, or Cabinet, to cut or scrap the 20 percent tax on interest earned from bank deposits.

These steps and a string of others in the past several weeks have convinced investors that the policy climate for stocks will not be as benign in the second half of 2007 as it was during the spectacular bull run of the first half.

“The market is being put to the test right now as investors are very concerned about the bond news” and government policy in general, said Chen Jinren, analyst at Huatai Securities, who added that stocks would remain weak for days.

The Shanghai Composite Index closed down 2.39 percent at 3,820.703 points, after falling as much as 3.44 percent at one stage. On Thursday, it sank 4.03 percent. Losing Shanghai stocks heavily outnumbered gainers by 720 to 115.

Turnover in Shanghai A shares slipped to 103.7 billion yuan (US$13.6 billion), the lowest since early April, from Thursday’s 126.4 billion yuan as more investors pulled out of the market.

Taken together, the Shanghai and Shenzhen exchanges were Asia’s worst-performing stock market in June, although they were still the best-performing for the first half of 2007.

The Shanghai index slipped 7 percent in June, although it closed the month up 43 percent from the end of last year. It is 12 percent off an all-time high hit in late May.

The market began to sour at the end of May as the government hiked the stock trading tax to discourage speculation.

A string of events since May, including a crackdown on the illicit use of bank loans for stock investment and the scheduling of huge initial public offerings (IPOs) by top mainland companies, which will increase share supply, has suggested authorities are keen to cool the market.

Depending on how the new bond sales are conducted, they will not necessarily pull money from the financial markets.

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I NG said in a research report Friday that the markets would continue to experience excess liquidity for the next two years due to a widening trade surplus. It forecast the stock index would hit 8,000 points within the next three to four years.

A cut in the bank interest tax could actually prove positive, by raising tax-adjusted deposit rates and therefore reducing pressure on the central bank to make real interest rates positive by tightening monetary policy.

Because a strong stock market is crucial to the government’s economic reforms, authorities remain very unlikely to permit an extended collapse of share prices.

But many stocks have been able to command valuations that are twice foreign levels only because of a flood of new money into the market. Now that the supply/demand balance for stocks looks set to worsen, confidence is crumbling.