'Snowball' derivatives feed China's stock market avalanche
stock market is leading to losses on billions of dollars worth of derivatives linked to the country's equity indexes, fuelling further selling as retail investors offload their positions.
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Stock markets in Hong Kong and on the mainland plunged on Monday, extending a long spell of weakness driven by an exit of foreign investors alarmed by China's wobbly economy.
Share prices stabilised somewhat on Tuesday after authorities announced plans to support the market, but analysts were hesitant to cheer.
The small-cap CSI1000 index has traded below the 5,000 level this week, after a 6% plunge on Monday to its lowest level in nearly four years.
Market participants said the drop triggered «knock-in» levels on «snowball» products, also known as «auto-callables» in some markets, leading to forced selling of stock futures contracts which further pressured the market.
«Futures volumes have been elevated, around 50% higher than average yesterday, for example,» said Jon Withaar, who manages an Asia special situations hedge fund at Pictet Asset Management. That showed these products had been hedged via stock futures, he said.
«Snowballs» are derivatives in which investors receive a bond-like coupon if the underlying assets, such as the CSI500 and CSI1000 indexes, do not hit a pre-determined «knock-in» level.
They were popular among investors until recently, when such knock-ins started happening more often as indexes fell.
Analysts at UBS estimate the outstanding notional amount in such products is around $50 billion and that roughly 40% of knock-ins have likely been hit.
Brokerage China International Capital Corp (CICC) estimated the average knock-in levels for
