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Testing for market segmentation in the A and B sharemarkets of ChinaPatrcia Chelley-Steeley a & Weihua Qian ba Finance, Accounting and Law Group , Aston Business School, University of Aston , AstonTriangle, Birmingham, B4 1AL, UKb Everbright Pramerica Fund Management Co Ltd , Shanghai, Chinac Finance, Accounting and Law Group , Aston Business School, University of Aston , AstonTriangle, Birmingham, B4 1AL, UK E-mail:Published online: 19 Aug 2006.
To cite this article: Patrcia Chelley-Steeley & Weihua Qian (2005) Testing for market segmentation in the A and B sharemarkets of China, Applied Financial Economics, 15:11, 791-802, DOI: 10.1080/09603100500118930
To link to this article: http://dx.doi.org/10.1080/09603100500118930
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Testing for market segmentation in
the A and B share markets of China
Patrcia Chelley-Steeleya,* and Weihua Qianb
aFinance, Accounting and Law Group, Aston Business School,University of Aston, Aston Triangle, Birmingham, B4 1AL, UKbEverbright Pramerica Fund Management Co Ltd, Shanghai, China
Recent research has suggested that the A and B share markets of Chinamay be informationally segmented. In this paper volatility patterns in theA and B share market are studied to establish whether volatility changesto the A and B share markets are synchronous. A consequence of newinformation, when investors act upon it is that volatility rises. This meansthat if the A and B markets are perfectly integrated volatility changesto each market would be expected to occur at the same time. However,if they are segmented there is no reason for volatility changes to occur onthe same day. Using the iterative cumulative sum of squares acrossthe different markets. Evidence is found of integration between the twoA share markets but not between the A and B markets.
For some time it has been argued that the ChineseA and B stock markets have been informationallysegmented, see for example Wo (1997), Sze (1993),or Kim and Shin (2000). Two of the most strikingcharacteristics of this market segmentation havebeen the huge discounts associated with B sharesrelative to A shares, and the finding that there arelead lag relationships between the returns of thefour stock markets.
Research which has considered market segmenta-tion in the Chinese markets has consistently studiedthe discounts associated with B shares. For example,Fernald and Rogers (1998) showed that B shareinvestors paid about a quarter of the price that Ashare investors paid for shares in Chinese companies.Similar discounts are also noted by Chakravarthyet al. (1998), who discover a discount of 60% on Bshares relative to their A share counterparts. Morerecently, Kim and Shin (2001) have documentedthat the prices of A shares in Shanghai are on averageabout 66% higher than B share prices while Shenzen
A share prices are about 52% higher than B shareprices.
As well as heavy discounts in the B share market anumber of studies have drawn attention to leadlagpatterns in the returns of the four Chinese stock mar-kets. Research by Chan (1993) and Chui and Kwok(1998) have shown that there are strong cross auto-correlations between the returns of companies whichhave issued both A and B shares. More recently,Kim and Shin (2000) has used Granger causality teststo describe the nature of the leadlag relationships inreturns. They found that the returns of B shares leadthe returns of A shares and A shares in Shanghai leadShenzen A share returns, although there wasa weakening of this relationship after 1996.
Both the heavy discount associated with B sharesand the leadlag pattern in returns have been linkedto information segmentation. Chakravarty et al.(1998) argue that the cause of such a huge discounton B shares is information segmentation caused bypoor information processing in the B share market.They argue that foreign investors find it more dif-ficult to acquire and assess information about local
*Corresponding author. E-mail. P.L.email@example.com
Applied Financial Economics ISSN 09603107 print/ISSN 14664305 online # 2005 Taylor & Francis Group Ltd 791
Applied Financial Economics, 2005, 15, 791802
Chinese firms because of language barriers, diverseaccounting standards and information barriers withinChina, which prevent the free flow of informationfrom one investor group to another.
However, information barriers are not onlybelieved to exist in the B share market. Informationdissemination is also believed to be inhibited in theA share market. Chui and Kwok (1998) argue thatjournalists are prevented from reporting financialinformation about firms in a timely way becauseof significant laws which prevent the reporting ofeconomic information. As a result important newsabout the economy is often announced first in neigh-bouring countries such as Singapore or Thailand,allowing foreign investors to benefit from the newsfirst, ahead of A share investors.
The aim of this paper is to study the extent towhich the A and B stock markets of China are infor-mationally segmented by looking at the correlationbetween volatility changes in each market. Using theiterative cumulative sum of squares (ICSS) procedureof Inclan and Tiao (1994) the dates on which volati-lity shifts to the unconditional variance of returns,took place in the Chinese stock markets are identi-fied. In previous studies researchers have relied heav-ily on information from cointegration tests. The ICSSalgorithm of Inclan and Tiao (1994) however allowsmuch more information to be gauged and can beprovided by cointegration results.
As shown by Ross (1989) stock market volatilitycan be linked to the arrival of new information, whichincreases volatility as investors utilize new informa-tion that moves prices. If the A and B share marketsare perfectly integrated, so that investors share andutilize the same information set, volatility changes toone market should be reflected elsewhere in othermarkets. However, if markets are segmented so thatinvestors are relying on different information setsthere is no reason to expect volatility shifts in thedifferent markets to occur at the same time.
It is found that the unconditional variance ofdaily returns for the Shanghai and the Shenzen A andB stock market are nonstationary. All stock marketsare characterized by numerous volatility shifts duringthe sample period. When the dates of the volatilityshifts are compared it is found that the A sharemarkets of Shanghai and Shenzen appear to bereasonably integrated because volatility changes inthese markets are synchronous. However, volatilityshifts to the A and B share markets do not occuron similar dates which indicates that they may beinformationally segmented. It is however noticedthat there is a reduction in segmentation after 1996as there are many more shared volatility shifts from1996 onwards.
The remainder of this paper is set out as follows,in Section II the Chinese stock market is described,in Section III the ICSS algorithm of Inclan andTiao (1994) is described which will be used to findthe dates on which volatility changes. Section IVdescribes the data and provides some summarystatistics. Section V reports the dates of the volatilityshifts and Section VI discusses the information thatmay have caused volatility changes in the Chinesestock markets. Section VII provides a summary andconclusions to the paper.
II. Chinas Stock Market
The Shanghai stock market which opened inDecember 1990 was the first official stock market toopen in China. In July 1991 a second stock marketopened in Shenzen. The Shanghai market tends tospecialize in the listing of state-owned enterpriseswhile the Shenzen market specializes in smallerexport orientated companies, which are often foreignjoint ventures. Dual-listing between Shanghai andShenzen is not allowed.
Both the Shanghai and Shenzen stock markets canissue two classes of shares, A and B shares. The dif-ference between A and B shares is that until March2001 A shares could only be held by Chinese resi-dents, while B shares could only be held by foreigninvestors or non-resident Chinese nationals. SinceMarch 2001 the B markets have been deregulatedto allow Chinese residents to hold B shares.
Trading on the A share markets takes place indomestic currency, while trading on the B sharemarket takes place in Hong Kong Dollars inShenzen and US dollars in Shanghai. AlthoughA and B share markets are strictly segmented eachA and B share provides almost identical rights anddividends to shareholders. Although the owners of Bshares are likely to be institutional investors this isnot the case for A shares, traded A shares are heldalmost exclusively by individual investors.
As Fernald and Rogers (1998) argue the attractionof issuing B shares arises because firms that issue Bshares are entitled to favourable tax treatment andhave more freedom to import and export goods.Issuing B shares can also provide valuable foreigncurrency. Companies are not able to issue B sharesin unlimited quantities as a limit of only 25% oftradable equity can be issued in the B share market.While some companies cannot issue B shares at all.The B share market has grown considerably sinceits start. In 1991 both Shanghai and Shenzen hadless than ten companies that issued B shares but as
792 P. Chelley-Steeley and W. Qian
Su (1999) shows by 1996 each market had issued overa hundred B shares.
Although there has been a substantial increase inturnover in the A share markets during the 1990strading volume in the B share market has remainedsignificantly below turnover in the A share market,see for example Fernald and Rogers (1998) or Su(1999). Since its introduction the B share markethas traded at a substantial discount to the A sharemarket, see for example, Sze (1993), Wo (1997) orSu and Fleisher (1999) who all document persistentheavy discounts on B shares relative to A shares.This has encouraged deregulation of the B sharemarket and the expectation that A and B marketswill eventually merge.
Although the B share discount is well documenteda consensus on why it exists has yet to be found.Recently the underperformance of the B sharemarket has been linked to differences in the qualityof information locally and abroad and the rateof information transmission across the differentmarkets.
Chakravarty et al. (1998) have argued that persis-tent B share discounts exist because foreign investorshave less information about local firms than Chineseresidents. Similarly, Su and Fleisher (1999) suggestthat large discounts to B shares exist because lessinformation arrives in the B share markets than atA share markets. Chui and Kwok (1998) also believethat the quality of information is important butargue that it is foreign investors that have the betterinformation because of the existence of informationbarriers within China.
III. Detecting Variance Shifts
To estimate the number of changes in variance andthe point at which each variance shift occurs Inclanand Tiao (1994) suggest a three-step algorithm. In thefirst instance, using the full data set the maximumabsolute value of the Dk series is calculated as
k 1, . . . ,T 1
where, Ck and CT are the mean centred cumulativesum of squares calculated using k and T observationsrespectively. If there are no variance changes overthe sample period then the series Dk oscillates aroundzero but drifts up or down from zero when a varianceshift occurs. If Max|Dk|(n/2)
1/2 is greater than the
critical value (1.358 at a 95% level)1 then a possible
variance change point has been found.
Once a possible change point cpi has been identified
after m observations the data should be partitioned
into two groups spanning t1, . . . , tm1 : tm1, . . . ,T.The Max|Dk|(n/2)
1/2 statistic is then calculated for
each of the two new samples. In each of these
two samples an additional change point could poten-
tially be identified. This would require a further sub-
division of the data until all the data has been
examined in intervals t1 to each change point until
T is reached and no further change points can be
In the third step all NN change points should be
recorded in order cp1, cp2, . . . , cpNN . Assuming the
two extreme values are cp0 where t 0 and cpNN1where tT. Each possible change point should berechecked by calculating |Dk|(n/2)
1/2 for data obser-
vations spanning alternate change points (cpi : cpi2)
until the change points cpNN2 : cpNN are reached.If Max |Dk|(n/2)
1/2 no longer reaches the critical
value the possible change point should be eliminated.
This step should be repeated until the number of
change points found in each pass of the data does
not change and the change points found are close2
to those of the previous pass.
Once all the change points have been identified
then whether volatility shifts occurred to the A
share and B share markets at the sam...