Infographic: In China, a Loophole Allowed Insider Trades
- September 12, 2023
- CBR - Finance
China’s Stock Connect program is an important part of the country’s efforts to integrate its capital markets with those of the rest of the world. Launched in 2014, it allows Hong Kong and foreign investors to buy eligible shares listed on the Shanghai and Shenzhen Stock Exchanges, while mainland investors can purchase certain securities listed on the Hong Kong Stock Exchange. But a regulatory loophole during Stock Connect’s early years gave mainland investors a way to pose as foreigner traders and potentially use inside information to trade on Chinese exchanges, according to research by Chicago Booth’s Zhiguo He, Yuehan Wang of the Central University of Finance and Economics, and Xiaoquan Zhu of the University of International Business and Economics.
When the researchers compared returns on northbound flows (those supposedly from Hong Kong and foreign investors) before and after a 2018 reform that narrowed the loophole, they find evidence suggesting that some mainland investors routed their purchases through Hong Kong, likely to conduct trades using inside information. The researchers call this behavior “round-tripping.” The analysis highlights the need for cross-border cooperation among securities regulators, such as the one that led to the reform, to ensure market efficiency.
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