This week, the A-share market announced adjustments to the weighting of the Shanghai 50 Index, with new additions and removals to its constituentsInitially, such changes seem like a standard index rebalancingHowever, the inclusion of Cambrian Technologies—an unexplained stock on an upward trend—raises eyebrowsThe revelations about this case highlight the complexities and underlying issues in the current market.

While this recent bull market catalyzes speculative trading around underperforming stocks, enticing short-term traders to engage in high-stakes competitions, it also attracts deposits into the marketHowever, Cambrian's ability to penetrate the index seems outrageous, especially given the volatility and instability associated with such stocks.

As a startup in the semiconductor industry, Cambrian Technologies has not released substantial updates regarding its products for some time

Advertisements

The company has witnessed significant managerial turnover, leading to severe internal issuesA glance at their official website shows that the last announcement about core chip product releases dates back to March 2022. Is this the hallmark of a thriving tech company?

Strangely, despite such stagnation, Cambrian's stock skyrocketed this year, reaching an astonishing market cap of 220 billion yuanIt's worth noting that even Cosco Shipping Holdings, once boasting a yearly profit of 100 billion Yuan, was valued at a similar level at its height, while Cambrian struggles to generate revenue exceeding 20 billion Yuan.

Growth stocks can often sustain losses, but it's critical to remember that the AI stocks in the U.S

Advertisements

typically feature companies demonstrating profitability and significant growth trajectories.

Companies like Nvidia, SMCI, AppLovin, and Palantir have exhibited remarkable performance, validating their applications and producing substantial commercial success—apt qualification for positions as leaders in the AI sector.

Of course, it's not uncommon for startups to incur losses before they unveil their core productsThe underlying issue stems from Cambrian’s low revenue and minimal losses; examining their financial statements reveals R&D expenses amounting to less than 1 billion Yuan annuallyHow can such paltry investments sustain significant product development? Such reluctance to invest capital results in limited breakthroughs.

In contrast, BeiGene—the leading company in the pharmaceutical sector—has sustained substantial losses for years, starting from tens of billions annually

Advertisements

However, their strategic burn rate aims toward an anticipated overseas annual income exceeding 20 billion YuanThe market recognizes the connection between capital investments and overall valuation, assigning at least 100 billion Yuan to such companies, making this expectation reasonable.

The scale of investment in Cambrian does not appear supportive of its potential to grow into a major corporationThe lack of communication about its performance and future projections leads many to label it as a pump-and-dump stock.

Historical precedents aren’t missing in this sagaConsider the example of a U.Slisted Chinese company, Zhong Cheng Technology, which once saw its market cap inflate to 400 billion dollars

• Investment Opportunities in the Nissan-Honda Merger
• Europe's Interest Rate Path May Change
• Fitness Fever Fuels Brand Makeovers
• The AI Money-Burning Race Among Tech Giants
• Nvidia's Short-Term Stability

At one point, it surpassed the valuations of Alibaba and Pinduoduo, showcasing how Cambrian, while facing challenges, pales in comparison.

In essence, as long as the market manipulators maintain control, they can manipulate short-term stock prices, but eventually, everything returns to its rightful placeUnderstanding Cambrian's short-lived market capitalization becomes clearer when reflecting on the broader implications for investors.

IFund Managers Step In

Being included in the index provides the advantage of securing purchases from index-tracking funds.

Current evidence suggests that the majority of non-money market funds in China lean toward passive index strategies

The top ten funds primarily track indices such as the CSI 300, followed by the SSE 50, CSI 500, and STAR Market 50. Investors intending to enter A-shares typically opt for these ETFs.

The tumult since 2020, coupled with excessive fundraising among active funds, has led to significant lossesWhile losses are concerning, the inability to outperform indices stems from waning investor trust in fund managers.

The once massive-scale active funds struggle with performance compared to indices, which raises questions on the credibility of human-managed strategies.

The prudent decision lies in investing in indices, aligning oneself with market trends, rather than adhering to actively managed funds claiming exorbitant annualized returns

Even investing in the SSE Index is more reliable than actively managed funds.

Analysis reveals that during this bull run, active funds have failed to expand significantly, while index funds have seen significant growth, establishing themselves as crucial institutional players.

Stocks experiencing inflated market caps will ultimately encounter downward corrections if no one is left holding the bagHowever, if stock prices soar, indices will consequently be forced to include these stocks, enabling manipulators to exit profitably through passive fund purchases.

Consider the leading SSE 50 ETF—Hua Xia SSE 50—which boasts a current market size of approximately 150 billion yuan

Post Cambrian's addition, a 1% weight requires an influx of 15 billion yuan, with numerous other ETFs linked to the index.

Cambrian’s rise in the index had already yielded rewards for existing shareholdersThe company's structure indicates about 50% of its shares are in circulationFrom its low market valuation, the stock gained prominence, subsequently being added to the STAR Market 50 and SSE 300 indices, which fundamentally shifted the trading dynamics.

The SSE 50 index, marked by strict eligibility criteria, encapsulates the top 50 companies in the A-shares marketIts inclusion signifies that all relevant index funds have undertaken purchases of Cambrian.

This situation has birthed an apparent arbitrage strategy within the A-shares market

By orchestrating stock price inflation through strategic trades using extensive capital, a stock can be elevated into the indexWhen large funds enter, the initial liquidity concerns for manipulators dissipate, leaving ordinary investors to confront the aftermath.

Fund management firms orchestrating ETFs bear limited responsibility for the actual indices; any resulting losses fall squarely on the investorsMeanwhile, market manipulators profit from these dynamics.

Nevertheless, replicating Cambrian's meteoric rise requires additional enabling factorsOtherwise, the excessive trading of stocks wouldn’t mirror the trajectory seen by Cambrian, where stocks inflated from tens of billions to 200 billion yuan and beyond, with aspirations to join indices like the STAR Market’s 50, and the SSE, without necessarily reflecting sound business fundamentals.

Firstly, Cambrian’s significant shareholders have largely refrained from cashing out, maintaining their stake at around 50%, ensuring stable circulation

This stability fuels ongoing price increases.

Market makers play a marginal role in contrast to large stakeholders, who tend to liquidate substantial portions when market prices surge, leaving manipulators exposed to market correctionsThe foundation and personnel ownership of Cambrian, deeply intertwined with the Chinese Academy of Sciences, has unintentionally restricted its capacity for large-scale reductions.

The journey toward index exploitation hinges upon substantial shareholder collaborationHowever, these entities often align interests; in most instances, brokers merely draw attention while stakeholders engage in profit-taking, subsequently redistributing earnings, creating a favorable ecosystem for market manipulation.

Secondly, Cambrian’s inclusion within the index is linked to its impressive trade volumes, projecting around 50 billion yuan for 2023-2024 with daily averages of 20 billion yuan—far superior to those minimal trades characteristic of many stocks that attract speculation.

However, there's a looming dilemma.

Falsifying trading volumes in the A-shares market is relatively easy

For instance, if one were to inflate trading from 20 billion yuan to 200 billion yuan by alternating between accounts, it could successfully create artificial trading volume alongside significant stock price growth over two years, all while accruing rewards despite underlying risks.

Given the substantial inflow associated with index investments, this cultivation scheme can thrive—inducing passive indexes to amass 10 billion yuan, marking a reasonable exit for retailers.

Furthermore, Cambrian's operational terrain significantly bolstered its trajectoryPositioned in the AI chip industry during a booming market, it attracted considerable interest, enhancing speculative trading dynamics amidst a dearth of compelling alternatives, while boosting performance metrics.

Such index methodology also presents risk; would the maintainers of index measures genuinely discern the reality of AI chip technology and projections, or would they err in believing the hype? Failing to recognize robust firms due to myopic assessments could cost them dearly.

In summary, in the overarching context of recent years, the skepticism toward public funds in China has intensified

Bullish investors have turned to ETFs and indices for exposure, swelling their allocation to an astonishing 70%, further enabling this model of inflating trade volumes to yield returns.

IIThe Technical Complexity of Indexing

Evidently, the primary challenge lies within the index inclusion mechanismsCriticism has abounded regarding why the A-share market has underperformed over recent yearsThe crux of the issue partially extends to fund managers mimicking U.Spractices without comprehensively managing returns for shareholders.

With the S&P Index's consistent upward momentum, what hampers the A-shares? The recent case of Cambrian’s entry into the top 50 highlights these disparities effectively.

Many argue that Cambrian's 1% inclusion in the index will have negligible implications

Yet, when we look at other indices—the STAR Market 50, CSI 300, and CSI 500—their constituent lists already reflect deterioration.

Pay close attention to the lower indices, which are flooded with poor-performing stocks masquerading as investmentsIf this year’s expansions in index funds cease, we could witness a swift collapse in the market’s structure.

With established poor-performing stocks forming the basis of these indices, the onset of liquidations will resonate throughout the marketDespite promising economic indicators, the indices face perpetual stagnation or decline because of this misalignment.

As these stocks plummet, indices will likely underperform the general market, prompting investor disillusionment when they notice poor performance compared to alternative avenues of investment.

Consequently, disillusioned ETF investors will engage in selling, exacerbating negative feedback within the market, leading to further diminished broader market performance.

Making consistent profits for investors remains an uphill battle, with multiple loopholes available for exploitation

During the bull market's peak, the loophole was collective investment; now, index investment serves as the critical avenue for capital extraction.

Such dynamics are not isolated; similar scenarios have unfolded in both the Hong Kong and U.Sstock marketsFor instance, the incorporation of Kuaishou at a peak valuation decimated the Hang Seng Tech Index, with subsequent recoveries remaining elusive.

The entities responsible for compiling indices, namely the Shanghai Stock Exchange, Shenzhen Stock Exchange, and the China Index Company, while commercially driven, still lag compared to American counterparts.

Major U.S

firms like S&P Global and Nasdaq enhance their indices’ credibility by maintaining profitability and offering consumer-focused servicesThey compile numerous indices—such as the S&P 500 and Dow Jones—charging fees during creation and transactions while ensuring their relevance as market benchmarks.

These firms generate revenue not only from their indices but also through related funds and productsConsequently, why would funds attach themselves to certain indices and pay management fees? This integrity builds trust among fund managers as they transition from actively managed portfolios to index-based investments.

Central to this discussion is the acknowledgment that well-designed indices should outperform standard returns

Striking a balance between capital recognition and performance management is pivotal, diverging from conventional practices of artificially inflating or deflating stock weights based on market sentiment.

The methodology behind the S&P is elaborate and not merely a documentation exercise; it involves insightful discernment to ensure that companies are neither penalized for temporary underperformance nor rewarded for fleeting surges in valuation.

The SSE 50's fundamental index—the SSE 180—features less complexityHowever, the current landscape dictates that recent trends—such as the banking sector's bull run—remain unacknowledged within the index framework.

Clearly, any transparent methodology invites scrutiny and manipulation as market advantages become apparent

The S&P’s ability to engage funds motivators showcases the disparities in efficiency between the two major financial ecosystems.

Conclusion

The conclusion suggests that index assembling companies become complicit in watering down market integrity, allowing manipulators to drain resources competently while offering little recourse to underperforming retail investors.

Looking ahead, the expectation remains that the A-share indices will continue failing to encapsulate economic sentiments

As investor faith in index practices falters, there’s a risk that future solid market growth might not alleviate the persistent misalignment between actual commodities and indices.

Moreover, competition will intensify among stocks near index entry thresholds, often marginalizing stable blue-chip equities incapable of attracting speculative interest.

In summary, the pathway to reform requires commercializing index compilation thoroughly, transitioning from non-market mechanisms into competitive arenas, paving the way for leading entities over two to three decadesHowever, as of now, little progress has materialized.

For investors, the immediate aim should be to reduce dependency on passive investments while increasing engagement with actively managed opportunities to safeguard against market manipulation.