A Study On The Market Effect Of The Price Limit System In The Chinese Stock Market

Ever since the launch of the reform and opening-up policy in China,China’s economic system have experienced rapid growth.The importance of capital market,which serves to optimize the resource allocation and support the real economy is increasingly prominent.Thus,how to ensure the stability of security markets,and how to improve their resource allocation efficiency have been main concerns of regulators,market participants and academic researchers.In the traditional researches of capital market and asset pricing theory,transaction mechanisms were habitually regarded as exogenous setting,whose effects on capital prices and transactions are often neglected.As the accumulation of transaction data and experience,transaction mechanisms started to play considerable roles in the recent papers,where information asymmetry and transaction costs are included the research models and complete market hypothesis in the CAPM and APT model is considered as flawed.Transaction system was found to have a negligible effect on the formation of asset prices.Therefore,the reasonable setting,properly application and orderly functioning will greatly promote the market development.In order to maintain a healthy and international competitive capital market in China,questions such as whether the current transaction mechanism and rules in the Chinese stock market are appropriate and suitable for the Chinese economy,and whether the stock market in China are able to provide an“fair,just,and open”investment environment,should be seriously answered.Price limit system,as the most basic and widely adopted one of all kinds of trading systems,have always been concerned by policy makers and academic researchers.Since Dojima first implemented the price limit system in the early 18^th century,people have been keeping arguing about its effectiveness.Therefore,based on extant literature and set in the specific rules on*ST stocks,this paper empirically analyzes the market effect of price limit system in the Chinese stock market and focuses on its impact on three factors of market quality,namely the market efficiency,market liquidity and market stability by means of event study,time series comparison analysis,fixed effect regression,and difference-in-difference analysis,etc.Besides,this paper utilizes methods of propensity score matching,placebo tests,in order to solve the latent endogeneity problems.Furthermore,this paper analyzes the internal mechanism that affects the market effect of price limit system,from the perspectives of informed traders,market information transmission,and financial market environment.The main content of this article consists of seven chapters,and the arrangements are as follows.In the first chapter,this paper systematically reviews the relevant theories and concepts of market trading system.By elaborating relevant theoretical models,this chapter constructs a theoretical framework for further researches,and analyzes the ways by which the trading system affects market quality.This chapter ends with a summary of the design goals of the trading system.after the theoretical part,chapter 2 focuses on the origin and development of the price limit system in domestic and foreign stock markets,and describes the operation of the price limit system in Shanghai and Shenzhen stock market since the implementation of the price limit system.After review and introduction of theoretical parts,chapter 3 to chapter 6 in this paper conduct empirical analyses.Based on the special settings of the delisting risk warning system in the Chinese stock market,using transaction data and financial data of A shares in the Shanghai and Shenzhen Stock Exchange from 2003 to 2016,and using event-study,time-series analysis,fixed effect model and difference-in-difference model,these chapters aims to analyze the impact of price limit system in China on three of the most important factors of the market quality,namely the market stability,market liquidity,and market efficiency.In addition,to solve the latent endogenous problems,these chapters utilize methods such as propensity score matching combined with DID,placebo tests,etc.,and test the consistency of the empirical researches.Based on the previous three chapters,the sixth chapter of this paper discusses the intermediary role of informed traders,market information transmission,and financial market environment between the price limit system and the market quality.The last chapter of this paper concludes the research results and put forward some policy proposals.The main conclusions of the theoretical analysis and empirical researches in this paper are as follows.First,by means of statistical analysis on the frequency and probability of reaching the limit-up level and the limit-down level of stock prices,the price limit was found to be more binding for increase of stock price when the stock market was relatively stable,while the decline in stock prices was more limited during the crisis period.Compared with the Shanghai stock market,the probability of limit hit was higher in the Shenzhen stock market.In addition,limit hit also had a Sunday-effect and aggregated in special months and industries.*ST stocks,with a tighter limit level of 5%,has a minority in the stock market,which is only about one-twentieth of the normally traded stocks.The probability of limit hit,however,is significantly higher than that of normally traded stocks.A narrower limit level seemed to be more binding for stock prices.Second,through regression analyses,a tighter price limit（daily limit of 5%）are not able to improve the market stability,compared to the daily limit of 10%,but will increase the idiosyncratic volatility of stock returns,and bring greater crash risk.In relative to normal stocks,*ST stocks exhibit lower liquidity,worse trading elasticity,and higher transaction costs.In addition,the narrowing of the limit level will significantly reduce the price efficiency,and the corresponding stock prices will contain more lagging information,the speed of price reaction to new information will be significantly reduced.The results of this paper remain robust after controlling for endogenous problems that may arise from the limitations in research data and research methods.Finally,through grouping regressions,it is found that the narrowing of the price limit level will more significantly affect market stability,liquidity,and efficiency when the institutional investors have higher shareholding ratio,analysts’forecast errors are higher,and the marketization process of the company’s region is slower.The narrowing of the price limit level will affect the decision making of informed traders in the stock market,and further impact the market transaction and stock prices.Institutional investors in the Chinese stock market might have irrational investment behaviors and malicious manipulating behaviors,which makes it difficult for the price limit system in China fulfill its designed missions of stabilizing the stock market and reducing transaction risks.Moreover,the accuracy of market information transmission and the financial market environment also play an important role on the market effect of price limit system.Through theoretical analysis and empirical researches,this paper proves that there is a significant market effect of the price limit system in the Chinese stock market.A tighter limit level will increase the idiosyncratic volatility and crash risk of stock prices,reduce liquidity,and price efficiency.This research enriches the extant literature on the market effect of the price limit system in China and provide a relatively complete research framework.This paper is helpful to deepen the understanding of the trading system in the Chinese stock market.Additionally,the results of this paper suggest that the implementation of stricter limits on the stock prices not only fails to reduce the price volatility and trading risks but will also result in lower information efficiency and lower liquidity.Moreover,this paper finds that the behavior of institutional investors,analyst forecasts,and market environment can significantly affect the market effects of market trading systems.This provides empirical evidence and policy references for market regulators.Furthermore,the researches of this paper show that the irrational behavior of institutional investors may hinder the functioning of market system and cause decline in market quality.This may provide references for market participants and is conducive to enhancing investors’understanding of the trading system and trading risks.The main contributions and innovation of this paper are as follows:In terms of the research sample,the sample range of existing studies on the price limit is mostly concentrated in the 1990s or the early 21^st century,whereas this paper uses data from 2003and 2016.This dataset increases the sample size on one hand and enable the research to provide new evidence from the developing market.In terms of the research methods,This paper then take advantage of the special setting of China’s delisting risk warning system,combines methods of event-study,fixed effect regression,difference-in-difference regression,PSM-DID analysis,etc.to conduct empirical researches.In terms of the research content,most of the existing researches focused on the debate about whether to implement the price limit system on the capital market.Few scholars have discussed the appropriate scope of the price change limit.Based on the scenario where stocks in different trading states are subject to a looser（tighter）price limit,this paper studies the impact of the scope of price limit on the market performance,which supplements the researches in this area.In addition,most of the empirical researches only analyze the impact of the price limit system.There is lack of further discussions of the impact channel.This paper discusses the impact channel of the price limit system from the perspectives of informed traders,limited arbitrage,etc.,which also supplements the existing literature.There are still many shortcomings in this paper.Due to the limitation of research methods and data availability,the treatment of endogenous issues should be improved.The impact of the delisting risk warning system on stock prices and the impact of narrowing the price limit level have not been completely and thoroughly separated.In addition,there are major deficiencies in the discussion of the affecting channels in which the price limit system affects the market quality.Due to the lack of data,the significance of the researches in this part is relatively low.