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Futures Market: Hong Kong Experience

Futures Market: Hong Kong Experience. Prof. Stephen Yan-Leung Cheung City University of Hong Kong. Content. Asian Financial Crisis (1997-1998) What happened Consequences Aftermath Lessons. What Happened?. Inflated asset price Fell by 60% Potential recession 1998 Q3 GDP ↓6.9%

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Futures Market: Hong Kong Experience

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  1. Futures Market: Hong Kong Experience Prof. Stephen Yan-Leung Cheung City University of Hong Kong

  2. Content Asian Financial Crisis (1997-1998) • What happened • Consequences • Aftermath • Lessons

  3. What Happened? • Inflated asset price • Fell by 60% • Potential recession • 1998 Q3 GDP ↓6.9% • Other Asian currencies have sharply depreciated • Market perceived that HK dollar was undervalued • Hong Kong dollar is linked with US dollar with US$1 vs HK$7.8

  4. What Happened? • Pressures began in October 1997 on the forward rates for the HK dollar and regulated in a sharp full in equity market • Pressures continued periodically through the first half of 1998 • Weakness in domestic economy • Yen had fallen to an 8-year low of 147 per US$ • Renewed concerns an possible depreciation of RMB • In 1998. equity prices had fallen over 55% from their peak a year earlier, 12-month forward rate on the HK dollar was depreciated by 8% compared to 7.8 which is the official rate of HKD

  5. Double Play • Taking short position in the equity market • Short-selling stock • Short HSI futures contract • Put option on HSI • Putting upward pressure on the forward rates for the Hong Kong dollar → sharp fall in equity market

  6. Currency market • Short position in the HK dollar may have established to over US$ 10 billion (6% of GDP) by institutions • SWAP-driven issuance of HK dollar dominated securities by international financial institutions in the first eight months of 1998 • Concentrated selling intended to move the exchange rate beyond the official exchange rate • Market rumors on devaluations of the HK dollar

  7. Derivatives market • Activity on HSI futures contract rose from April to August 1998 • 4 hedge funds whose futures and options positions accounted for 40% in early August 1998 • Their positions accounted for 49% of the total; one fund accounted for one-third Source: Report of the Work Group on Highly Leveraged Institutions (Financial Stability Forum 2001, BIS)

  8. Consequences • HKSAR government’s intervention in the market during 14-28 August, US$ 15 billion in equities, led to the creation of HK tracker fund • Subsequent improvement in the global outlook, the large hedge fund HSI futures positions were mostly unwound in October

  9. Risks • Futures market • Concentration risk, a big concern? • Definitely yes for the economy, because of systematic risk

  10. Aftermath • Open position limit • Margin requirement • Super-margin requirement

  11. Lessons (1) • Communication channels between HKFE and SFC • Coordination between regulators • Cross-market surveillance Committee • Market Intelligent System

  12. Lessons (2) Education on products • Investors • Regulators • Intermediaries

  13. ‘Big elephant jumped into a small pond.’

  14. ~ END~

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