Is the China share selloff a teapot tempest?

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China's margin lending crackdown may have spurred a sharp knee-jerk selloff, but analysts aren't convinced it's anything more than a minor hiccup in the mainland's bull market.

"This is not a day to be a bull on the equity market," Tim Condon, head of research for Asia at ING Financial, told CNBC. "But I think this will be a transitory blip and monetary accommodation will return as a driver and share prices will continue to move higher over the course of the year."

Admittedly, it's quite a large blip: the dropped as much as 8.3 percent in intraday trade Monday before finished down 7.7 percent after rallying more than 50 percent last year as retail investors piled in, accounting for around 80 percent of trading volume.

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Hong Kong's Hang Seng China Enterprises Index closed down 5.0 percent after falling as much as 6.6 percent in intraday trade Monday.


Brokerage and other financial shares took it on the chin after regulators announced measures to crack down on margin trading late on Friday.

The China Securities Regulatory Commission (CSRC) last week barred Citic Securities, Haitong Securities and Guotai Junan Securities from opening new margin trading accounts for three months after regulators determined the three failed to correct violations of rules prohibiting rolling over margin trading contracts. Another nine brokerages received warnings. In intraday trade Monday, Citic Securities dropped more than 16 percent in Hong Kong and by the 10 percent daily limit in Shanghai.

But concerns over margin trading in the A-share markets were brewing before the CSRC's move Friday.

"China's current level [of margin financing] is already close to or higher than the peak level of other countries and with the much faster pace suggests little upside potential but high downside risks," Citigroup said in a note last week before the CSRC announcement. It downgraded brokerages in the CSI300 index to underweight from overweight.

Margin balance - a measure of investor leverage - as a percentage of total market capitalization of A-shares stood at 2.4 percent at 2014's end, among the highest globally and on par with the New York Stock Exchange (NYSE), according to Bank of America Merrill Lynch.

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But while the NYSE's ratio rose from 0.9 percent to 2.4 percent over 13 years, it took A-shares just 17 months – from July 2013 to December 2014. As of Friday, outstanding margin trading was at a record high of 1.19 trillion yuan, according to data from OCBC.

Still bullish

Others also don't expect the selloff to mark a major change in the bullish view on China equities.

"Part of the reason why the market has gone up is because retail investors have been using margin to invest, but that's only a small part of why it's gone up," Mark Matthews, head of research for Asia at Julius Baer, said, citing factors including the Hong Kong-Shanghai stock connect, an anti-corruption drive, recent positive export data and improved corporate governance.

He also noted that CSRC move isn't a system-wide ban on margin financing, affecting only the named brokerages for a limited time period.

Going behind China's margin trading issues

It isn't entirely clear how badly the brokerages will be affected.

Daiwa expects the three penalized brokerages will face significant market share losses, but it's keeping a "positive" sector call.

"Though we expect the regulatory crackdown to dampen near-term margin lending growth momentum, we believe the rising trend of lending businesses' contributions for securities firms' revenue and earnings is intact," Daiwa said in a note Friday.

Some expect longer-term investors will see the selldown as a buying opportunity.

"If the retailers want to get out, they want to get out. If they bought on margin, certainly they would be forced to wind down the position," said Steve Wang, chief China economist at Reorient Financial. "Long-term investors will come back to see what's a better entry point."

Wang isn't alone in that view.

"Near-term headwinds could be meaningful to A-shares," Ben Bei, an analyst at CIMB said in a note Monday, citing "clear risk control signals from the government" and the recent rally's dependence on liquidity.

But he's keeping a more positive view for the medium-to-longer term.

"Curbing the soaring leverage level can provide a solid foundation for the equity market in the long run," Bei said. "Regulators' risk control measures may expand the room for monetary easing in 2015."

—By CNBC.Com's Leslie Shaffer; Follow her on Twitter @LeslieShaffer1