Is "squeezing positions" an act of market manipulation? Legal professionals say so.

Position squeezing is a kind of manipulation, which is seriously harmful and destroys the function of the futures market to serve the real economy. The China Securities Regulatory Commission has clearly prohibited it as an illegal act in 2019, according to the interpretation of the Supreme Procuratorate and the Supreme Law on several issues relating to the Application of laws in Criminal cases of manipulating the Securities and Futures Markets, if the circumstances are serious, crowded manipulation also constitutes a criminal offence. Recently, an article published by the network self-media platform believes that "crowding is only an ordinary financial phenomenon at a specific time, and it is the emergence of large positions due to differences under the respective pricing logic of the spot market, which induces phased financial games. Crowding usually occurs at the turning point of market thinking, while multi-variety groups are an important signal of the transition of macro atmosphere and an important embodiment of the function of futures price discovery under market-oriented conditions."

This paper ignores the harm of crowded warehouse and distorts the supply-side reform in our country. The author studies the definition, constitutive elements, harm and legal regulation of squeeze manipulation, and puts forward some suggestions on how to supervise the market behavior of squeeze manipulation in China's futures market.

The definition and causes of squeezing manipulation

The development of China's futures market for more than 30 years has experienced a process from chaos to governance. at present, under the supervision of the "five-in-one", vicious forced position manipulation rarely occurs, but squeeze manipulation occurs occasionally.

The definition of squeezing

In order to crack down on the manipulation of positions and maintain the order of the futures market, the China Securities Regulatory Commission formulated and promulgated the provisions on Article 70, item 5, of the regulations on the Administration of Futures Trading, "other acts of manipulating Futures Trading prices". It is clearly forbidden to crowd positions as a kind of market manipulation, and the relevant regulations will come into effect on November 22, 2019. According to the regulations of the China Securities Regulatory Commission, squeeze manipulation refers to the behavior of "using improper means to evade position restrictions, form position advantages and affect futures trading prices on contracts close to delivery months or delivery months".

The reason for the squeeze.

The reason for the squeeze is the existence of the physical delivery system in the commodity futures market. At present, China's commodity futures market adopts the physical delivery system. After the last trading day of the delivery month, the holders of short positions in the contract must fulfill the obligation of delivery, otherwise they will be liable for delivery breach of contract. Whether in China's futures market or Europe and the United States and other futures markets, the vast majority of traders do not have the will and ability to deliver. The customers in the futures market can be divided into hedging clients, arbitrage clients and speculative clients. Speculative customers and arbitrage customers earn profits from price fluctuations, so they have no motivation to participate in delivery; according to classical hedging theory or modern hedging theory, the function of hedging is to hedge the risk of price fluctuations of corporate assets or liabilities through the futures market, so most hedging customers, especially those who buy hedging, do not need to carry out physical delivery. Before the contract approaches the delivery month or the last trading day of the delivery month, investors often close their positions by closing their positions.

In the case that most investors do not participate in physical delivery, some people alone or jointly evade position restrictions through improper means, forming a position advantage, and holding positions leads to a sharp decline in contract liquidity. force short sellers without the will and ability to deliver to cut their positions and leave at a higher price, so as to achieve the purpose of making a profit.

On the harm of overcrowding manipulation from the Angle of Economics

The futures market has two major functions: one is the price discovery function, and the other is the risk management function. The two functions are inseparable from the authenticity and accuracy of the futures price. According to modern economic theory, the price formed by a perfectly competitive market is the most effective price. The futures market is a highly standardized market close to perfect competition. There are a large number of sellers and buyers in the futures market, which adopts centralized open bidding trading mode, and all kinds of information are highly concentrated and spread rapidly. In a perfectly competitive environment, the prices formed by producers, processors, traders, speculators and arbitrageurs through open bidding transactions objectively reflect the price in the perfect competitive environment and the normal and natural relationship between supply and demand in the market. the resulting price is authoritative. Therefore, the international trade of commodities dare to adopt the pricing method of "futures price + discount".

By artificially distorting the relationship between supply and demand in the futures market, squeezing manipulation seriously affects the function of price discovery and risk management of the futures market, and hinders the function of the futures market to serve the real economy. The overruns alone or in collusion to evade the position restrictions of the exchange and thus form the position advantage create the illusion of strong demand in the contract near the delivery month or delivery month, resulting in imperfect competition in economics. In the short term, the seller's supply for commodity delivery is fixed, and when the demand is greater than the supply, there will be a shortage, and the futures price will naturally rise. In general, because of the existence of delivery fees, it is uneconomical for buyers and sellers to buy or sell goods from the futures market, if the forces of long and short are in equilibrium, generally speaking, the contract delivery price and the spot price should be relatively close; if the industry entry threshold of the relevant goods is higher, due to the existence of warehouse fees and processing costs, according to the compensation theory, the delivery price is usually less than the spot price. When long positions are squeezed, short sellers who do not have the will or ability to deliver tend to close their positions at a higher price, and the final delivery price is usually much higher than the spot price.

It is uneconomical for the bulls to buy the spot. The purpose of the squeeze is to obtain the excess profit generated by the closing of the position. Squeezing leads to imperfect competition, prices are distorted, or even abnormally high, and the result of price distortion will cause industrial customers to fail to hedge in the futures market, because the rise in spot prices is lower than that of futures prices. price distortion will send false signals to the real economy and lead to an increase in social production capacity. bulls can only buy commodities at uneconomical prices because they are unable to deal with related commodities. It leads to an increase in the supply of short-term goods, which in turn leads to confusion in commodity prices.

On June 30, 2020, the China Securities Regulatory Commission announced the starch 1601 contract manipulation case, which is a typical position manipulation. Zou Xinxin and Liu Zhe used 24 accounts to divide their positions. Starting from December 14, 2015, the long positions held by the relevant accounts exceeded the position limit of the exchange for 19 consecutive trading days, and the proportion of excess positions for 14 consecutive trading days was more than 100%. From December 14, 2015 to January 14, 2016, the proportion of long positions in the market (hereinafter referred to as long positions) was always more than 40%, with a maximum of 16270 long positions (December 22, 2015), exceeding 11770 positions; the highest proportion of positions reached 99.82% (January 6, 2016). During the delivery month, the account group took advantage of its position to force the short side to accept the offer from the account group and close the position according to the price of the account group from January 11 to 13, 2016. The settlement price of corn starch 1601 contract increased from 2188 yuan / ton on December 8, 2015 to 2299 yuan / ton on December 18, 2015. the price difference between corn starch 1601 contract and 1605 contract increased from 130 yuan / ton on December 8, 2015. to 221yuan / ton on December 31, 2015. As can be seen from the case, the squeeze distorts the price, which will lead to the failure of industrial customers' hedging and arbitrage customers' arbitrage transactions.

Administrative and Criminal legal Regulation of squeezing manipulation

The American futures market explicitly forbids "forced (Corner)" and "squeezed (squeeze)" as illegal manipulation acts in its Commodity Trading Act. The legislation of China's futures market lags behind, which leads to difficulties in the application of the basis of punishment in the case of position squeezing and manipulation.

In terms of administrative regulation, as mentioned earlier, in November 2019, the China Securities Regulatory Commission explicitly banned warehouse squeezing as an act of manipulation. According to the drafting instructions of the China Securities Regulatory Commission, there are mainly two elements in the composition of position-squeezing manipulation: first, the behavioral elements, some investors individually or jointly, using separate positions, false applications for hedging quotas or other improper means to evade position restrictions and gain position advantages, so as to have the premise of squeezing positions on other investors. Therefore, "using improper means to evade the restriction of position and forming the advantage of position" is regarded as the constitutive element of squeezing manipulation. The second is the result elements, which constitute squeeze manipulation, which requires that the actor's position advantage has an impact on the futures trading price. To determine whether the price is affected, it can be determined from many dimensions, such as the trend of the futures contract price after the actor constitutes the position advantage, the price difference between the futures contract and the adjacent contract and so on. It is worth noting that even if the final spot price is consistent or close, it cannot be used as a defense that the offender does not affect the futures price.

In terms of criminal regulation, the interpretation of several issues concerning the Application of Law in handling Criminal cases of manipulation of Securities and Futures Markets promulgated by the Supreme Procuratorate and Supreme Law in 2019 does not clearly regulate the manipulation of positions as a crime, however, the judicial interpretation adopts the way of underwriting clause to deal with this problem. Whoever manipulates the futures market by other means, if the circumstances are serious, shall still constitute a crime. Manipulation as an administrative offender, administrative laws and regulations are the pre-law of criminal law. The current administrative laws and regulations have regulated the manipulation of squeezing as an illegal act, and it does not violate the principle of legality to crack down on the manipulation of crowded positions if the circumstances are serious.

Supervision of squeezing manipulation

The article published by the above-mentioned online self-media does not realize the harmfulness of squeezing positions to the function of the futures market, but thinks that "supply-side reform varieties may be squeezed frequently". The fundamental purpose of supply-side structural reform is to improve the level of social productive forces and implement the idea of people-centered development. While moderately expanding aggregate demand, we should eliminate production capacity, remove inventory, deleverage, reduce costs, make up for deficiencies, strengthen high-quality supply in the field of production, reduce ineffective supply, expand effective supply, and improve the adaptability and flexibility of the supply structure. we will improve total factor productivity and make the supply system better adapt to changes in the demand structure. Squeezing positions is an illegal manipulation, resulting in artificial and false prices, which may disturb the effective allocation of social factors of production. In order to prevent congestion manipulation, the author puts forward the following suggestions:

The first is to strengthen the "five-in-one" regulatory cooperation in the futures market and enhance the ability to find clues to squeeze positions. The implementation of position squeeze often requires multiple actors to cooperate and make use of multiple accounts to circumvent the position restrictions of the exchange. Under the stimulation of interests, the actor may take the way of collusion or joint to divide the position, and the investigation means of self-regulation of the exchange are limited. therefore, we should give full play to the "five-in-one" regulatory cooperation. to investigate whether there is a relationship between actors from many aspects, such as trading terminals, sources of funds and so on.

The second is to strengthen the supervision and disposal capacity of futures exchanges. The implementation of the squeeze may exist in the form of separate positions or in the form of false hedging. The futures exchange shall establish an early warning system to monitor the relevant positions of contracts close to the delivery month or delivery month in real time and to understand the intention of the customer to hold the position. When conducting an investigation into the existence of position shifting or reversal, the futures exchange may take temporary measures to deal with the violators and their accounts in accordance with the trading rules and measures to deal with violations, so as to prevent the influence from expanding. (author: Liaoning Renkai Law firm)