Today's market performance was a tale of two halves, with a dramatic reversal that caught many by surprise. Technology stocks experienced a significant sell-off, while more traditional sectors saw substantial gains.

On June 12th, the Shanghai Composite Index surged before retreating, and the ChiNext Index opened higher only to close lower. At the close, the Shanghai Composite was up 1.12%, the Shenzhen Component Index rose 0.75%, and the ChiNext gained 0.5%. The STAR 50 Index, which had surged nearly 4% intraday, ultimately gave back almost all of those gains, a phenomenon we will explore later.

Overall, 3,923 stocks advanced, with 100 hitting their daily limit-up, while 1,515 stocks declined.

The non-ferrous metals sector saw a collective surge, with over ten stocks, including Luoyang Molybdenum Co., Ltd. and Jinmu Co., Ltd., reaching their limit-up prices.

Financial stocks such as securities firms also rallied, with Caida Securities and Bank of China Securities hitting the limit-up.

Military-industrial and commercial aerospace concept stocks were active, with Aerospace Development, AVIC Xi'an Aircraft Industry Group Company Ltd., and Zhongtian Rocket Technology Co., Ltd. among those reaching limit-up.

On the downside, industrial gas concept stocks adjusted, with Haohua Chemical Science & Technology Corp. falling by the daily limit. Guangdong Huate Gas Co., Ltd. and Jinhong Gas Co., Ltd. dropped over 10%.

Sectors like MLCC, glass substrates, and advanced packaging were among the biggest decliners.

Reasons Behind the Tech Sell-Off

The sharp decline in technology stocks is linked to reports that major global banks are tightening leverage for hedge funds betting on leading Asian semiconductor stocks, including SK Hynix Inc. and Samsung Electronics Co., Ltd.. According to sources, this move is due to concerns over a potential market correction following the stocks' excessive gains this year.

Brokers including Citigroup Inc., JPMorgan Chase & Co., and The Goldman Sachs Group, Inc. have already increased the financing costs for hedge funds taking long positions in SK Hynix and Samsung shares via swap contracts.

Banks are also restricting the size of new trades and have implemented similar measures for Taiwan Semiconductor Manufacturing Company Limited (TSMC).

Morgan Stanley is reportedly refusing new swap trades for these two Korean stocks from clients. Over the past two weeks, some second-tier banks have also stopped accepting new orders. Major global banks still willing to take new business are evaluating client requests on a case-by-case basis.

These actions come after a massive rally in the shares of both companies this year, which is part of a global tech stock frenzy that is fueling bubble concerns. SK Hynix shares have more than tripled this year, while Samsung Electronics has surged over 175%. This rally has driven South Korea's benchmark KOSPI index up by approximately 100%, making it one of the world's best-performing markets.

Furthermore, institutions including Bank of America, BNP Paribas, and UBS Group AG are also raising financing costs and limiting trade sizes for swap transactions on these two stocks.

Following the news, shares of SK Hynix and Samsung Electronics pared some of their earlier gains. The KOSPI index also gave back a portion of its intraday advance.

Understanding the Mechanism

Swap contracts are a common tool for hedge funds to bet on assets without holding the underlying securities and often with leverage. In markets like South Korea, where many hedge funds lack direct exchange trading accounts, using broker swaps is the default method for taking equity positions.

Sources indicate that the financing rates banks are now quoting for SK Hynix and Samsung swaps have increased to 300 basis points above the Secured Overnight Financing Rate (SOFR), with some rates reaching as high as 11% above SOFR. With SOFR currently around 3.6%, this puts the highest new financing rates near 15%.

In contrast, these financing rates were only about 100 to 200 basis points above SOFR in early May. The new rates apply to new swap contracts or those rolled over upon maturity.

Typically, after writing a swap contract, a bank would seek another counterparty to take the other side of the hedge fund client's trade. However, few institutions are currently willing to short stocks like SK Hynix and Samsung that are experiencing such a gravity-defying rally. This means banks sometimes have to use their own balance sheets to warehouse the risk, thereby limiting the scale of business they are willing to undertake.

Sources say banks are concerned that a sharp correction could impact the value of client positions, potentially triggering margin call defaults and ultimately posing a loss risk for the banks themselves.

A traditional advantage of swap trading has been its built-in leverage. However, sources note that some banks are now beginning to require clients to fund these positions in full, rather than continuing to provide leverage.