A new perspective on financial anomalies in emerging markets: the case of China

Abstract

Financial anomalies in emerging markets can be caused by very different reasons than that in mature markets. In a Generalized Autoregressive Conditional Heteroskedasticity (GARCH) model, we examine financial anomalies in emerging markets from a new perspective, which focuses on heavy political interventions. In the context of China, we show that political consideration of the government can be a critical force that drives the monthly anomaly in the stock market. The Chinese case indicates that usual explanations for the monthly anomaly or the January effect may become invalid in an environment where political intervention is a dominant force in the stock market. Typical of a policy-driven market that prevails in emerging economies, indicate no evidence for the January effect in China, neither its mirror version, the Chinese New Year effect. Rather, returns abnormality is found to occur in March when China is in the political high season. This March effect is likely a result of political manoeuvre by the government to make the appearance of a stable and thriving stock market, which serves the political purpose of preventing social resentment in a politically sensitive time. This shows political window dressing can be an important cause of financial anomalies, which has been largely neglected in the literature.

Notes

¹ There is a vast body of literature on the January effect. For the sake of space, we cite only limited number of papers for each school of thought. See Chen and Singal (2004) and references therein.

² Another form of market segmentation was related to A- and B-shares. A-shares were denominated in the Chinese currency (RMB) and owned by Chinese nationals. B-shares could only be purchased by foreign investors. They were quoted in RMB, but settled in US dollars (on SHSE), or Hong Kong dollars (on SZSE). From January 2001, Chinese citizens are allowed to trade in B-shares.

³ Finance and Economy Daily, 20 September 2005 (in Chinese).

⁴ ‘Understanding the Prime Minister's determination of “Rescuing the Market” in its true perspective’, China Economic Times, 17 March 2005, in Chinese.