China's first stock market and how it went belly up

It was a pleasant, sunny morning with a chilly autumn breeze, and about 20 men in blue robes and long braids were sitting around a table in Huifangrong Teahouse, which was at the busiest corner of Foochow Road inside the ceded territories of Shanghai in 1881.

All of them were anxious. They ordered a bottle of Tieguanyin, a premium oolong tea, and, unlike others who were chatting about operas or swapping anecdotes, the men began to discuss which stocks were worth purchasing.

This was China's teahouse stock exchange.

Evidence from the late Qing Dynasaty (1644-1911) shows China caught a nasty case of stock fever over 100 years ago.

After drinking half a bottle of Tieguanyin and exchanging the latest trading news and rumors, a man in a suit with chic, unbraided hair walked into that teahouse. Everyone stopped talking to stare at the broker.

With electronic buying and selling almost a century away, investors purchased and sold stocks (in the form of paper bills) mainly through brokers, who were closely connected with various companies. In teahouses, many deals were sealed verbally.

The stock-trading boom began amid the Self-strengthening Movement (1861-1895), during which Chinese intellectuals, officials and entrepreneurs looked to Western knowledge and technology to “strengthen the country” after a series of military defeats and concessions to foreign powers.

In 1872, Li Hongzhang, a general in the Qing imperial court, suggested building a shipping enterprise with a shareholding system, something Chinese investors had never known before. The share price of the company would not rise until 1881, having financed more than 1 million liang (兩) - 50,000 kilograms - of silver dollars via selling shares.

The next year, the share price reached 260 liang with an issue price of 100. The soaring prices improved the company's performance and resulted in less government interference, not to mention shareholder fervor.

With that, more companies had initial public offerings and investors looked for more, ignoring the actual performance of these companies, according to the Shen Bao newspaper in September 1882. The topic of discussion at teahouses had just one theme: the stock market.

Demand far outstripped supply. The Shanghai Mechanical Textile Bureau planned to finance 40,000 liang of silver dollars through an IPO of 4,000 shares. With so many buyers, the company had to issue another 1,000 shares of stock to meet demand, but people were still seeking brokers and were lining up in front of the headquarters to buy until the company announced in the newspaper that it had stopped issuing new shares.

On that autumn day in 1882 at Huifangrong Teahouse, the broker in the black suit told investors some important news: Li Wenyao was coming to Shanghai.

The investors winked at each other and did not say a word; they did not need to. They were thrilled. Mining stocks were the most desirable, and Li, the owner of a large silver-mining company, had not listed on the teahouse exchange yet.

Lying in wait for Li were mobs of investors begging him to issue stock. Personally, he had no wish to do so, but he followed public will and listed.

Between 1840 and 1890, China experienced the Opium Wars, while foreign powers such as the United Kingdom and France, which had advanced arms, had smashed down the wooden doors of the Middle Kingdom and continued to expand as the Qing court grew weaker.

In those days, Shanghai, with its harbor and its trade with foreign shores, was the most prosperous place in China. Rather than becoming the front line of battles, much of the city was ceded to several countries and had Western-style shops, schools and churches, which, like it or not, provided a window for local Chinese to learn more about the West.

China's first attempt at modern investment lacked a mature system to keep everything on track. Investors leveraged heavily from “money houses” (錢莊), old-style private banks, to trade in teahouses. How could they know that a crash was just around the corner?

First came the rumors from the Qing court of embezzlement of company funds. The rumors were never confirmed, but shareholders began to wobble.

Then, the private banks tightened up their leverage. Due to the excessive liquidity in the market, before the end of 1882, banks took a conservative attitude and attempted to settle accounts with debtors who had to sell the stocks to pay their credit, sending the teahouse stock market tumbling.

The death knell was the fall of the market leaders. In the spring of 1883, Jinjiaji Silk Co, which sold Chinese silk, was shut down, affecting more than 20 silk makers. The money houses further tightened their credit practices and many announced an end to lending.

But it was the bankruptcy of a tycoon that caused the crash to truly hit home.

Hu Xueyan, a private banker and China's richest man at the time, had intimate connections with the imperial court and was the owner of hundreds of private money houses around China. He could be viewed as both victim and perpetrator of the stock disaster.

In 1882, to break foreign monopolies in China that had been manipulating the silk export businesses, Hu united all raw silk producers in Zhejiang and Jiangsu provinces, two major silk-production areas, and bought all the raw silk so that he and his partners could set the market price.

He did the same thing again in 1883, only this time the demand for silk had dropped due to a global economic recession, not to mention overall anger about Hu's tactics. The plan failed and the silk he held was sold short. The losses were unrecoverable.

To ensure normal cash flow, Hu took money from his Fukang money house, a heavy stock speculator that was already suffering a downturn. The news leaked, and the headlines hit: “Hu Bankrupt”. Creditors rushed to Fukang money houses to get their deposits back.

As the run continued, Fukang's currency reserves were exhausted, and so it passed to those nationwide branches of Fukang money houses (the equivalent to Morgan Stanley or Goldman Sachs today), which went bankrupt without a safety net. Too big to fail they might have been, but fail they did.

The chain reaction had three main components: people could not get their money back from the banks, shops dependant on the banks closed, and unemployment ran rampant.

In 1884, the crisis worsened with the Sino-French War, and the stocks held by investors became useless pieces of paper. China's first stock boom ended, and it would take years for disappointed investors to regain confidence.

In the end, Hu survived the crash and is remembered as the man who dared take on the foreign monopolies. Today, he is revered as one of China's greatest businessmen, and Huqingyutang, the famous traditional Chinese medicine chain in Hangzhou, Zhejiang province, still remains as a testament to his legacy.

However, it seems that, for all its volatility and toxicity, the modern economy thrives on investor confidence, so while it is impossible to distance oneself entirely from the events of the past, it might be a good idea to heed the painful lessons it imparts.

Courtesy of The World of Chinese, www.theworldofchinese.com

The World of Chinese