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We examine several financial issues related to the Chinese Stock Market. Shanghai and Shenzhen stock exchange markets have grown rapidly since their inception and have become an increasingly important emerging market for…

We examine several financial issues related to the Chinese Stock Market. Shanghai and Shenzhen stock exchange markets have grown rapidly since their inception and have become an increasingly important emerging market for international investors. In 2005-2006 the Chinese authorities have reformed the stock market through corporate actions heavily featuring an increase in the supply of shares. To our knowledge, no other stock market in financial history has witnessed such a widespread and large increase in supply (about 33%) in such a short time period (less than two years). The setup of the Chinese reform, together with various unique market imperfections, is ideal to investigate the relation between speculation and pricing, and the role of the corporate governance.

We find evidence for abnormal returns both before the beginning of the reform and during the reform. Cross-sectionally, abnormal returns are associated mainly with turnover and compensation. This shows that in a speculative market, investors do not properly react to unambiguous corporate actions. Moreover we find that non-tradable shares reform was beneficial for the market as a whole, and especially for those companies with lower fundamentals. Results are consistent with the expectation of improved corporate governance and liquidity enhancing the value of the firm.