A raft of proposed new Chinese gaming curbs has wiped out US$32 billion from Tencent Holdings’ stock. The declines may not be over, looking at moves in the options market.

In a bearish sign, put options open interest has been rising relative to call options on the shares of China’s most valuable firm and its smaller rival NetEase since Beijing unveiled plans for a new round of restrictions on Dec 22. The volatility skew shows investors have sharply pared their bullish positions on Tencent’s stock as they await the end of a consultation on the guidelines on Jan 22.

The draft rules are reviving memories of the harsh crackdown in 2021, and testing Tencent bulls who have navigated two years of turbulence in the stock. Investors are hedging bets even after Beijing softened its tone, pledging to review controversial mandates, approving a slew of new games and reportedly firing an important sector regulator.

“The market is not very sure whether removing a top official means that any implementation of those rules can be withdrawn,” said Kenny Wen, head of investment strategy at KGI Asia. “After all, this decision might not have been made by just one person. So at this stage, it’s very hard to tell what the government is trying to do.” 

Even after a brief rebound, Tencent’s shares remain some 8 per cent lower than where they were before the proposed regulations were announced. The stock dropped 7.5 per cent last year, compared with an 8.8 per cent decline in the Hang Seng Tech Index. 

Bets in the options market indicate that investors may be preparing for a worst-case scenario. The 29-page consultation paper encompasses 64 items, with one rule limiting the maximum amount that a player can spend on one game. Under the proposal, warnings will pop up to caution users in the event of an irrational in-game expenditure. 

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Domestic games contributed about 21 per cent to Tencent’s total revenue in the third quarter, according to the firm’s latest quarterly earnings which also showed that mini-games helped to drive a recovery in margins. Data from Bloomberg Intelligence indicate that the company managed to grab market share from NetEase after launching its latest title, Dream Star.

Some say the drop in the shares is overdone and investors should consider boosting their positions. The proposed gaming regulations are more likely intended to curb irrational spending instead of deterring consumption, JPMorgan analyst Alex Yao wrote in a research note. 

“We don’t think the measures are aimed at curbing the development of the industry,” said Jian Shi Cortesi, portfolio manager at GAM Investment Management, adding that she favours the sector’s leaders. “The proposed measures should lead to more sustainable revenue generation and healthier competition for the whole gaming industry.” 

Tencent has moved to arrest the decline in its stock, as it bought back a record US$1.3 billion of shares in December and accelerated the pace even further this month.

But that hasn’t been enough to reverse the bearish sentiment, Three of the top five options with the biggest open interest on the stock are put options, according to data compiled by Bloomberg. 

Even mainland investors, a reliable source of support during previous market routs in Hong Kong, turned net sellers on Jan 4, when Tencent was close to recouping almost all the losses posted since Dec 22, according to Hong Kong stock exchange.

“The policy uncertainty will remain an overhang on Tencent and other players’ shares in the near term, until investors get full clarity on how these draft rules will be implemented,” said Willer Chen, analyst at Forsyth Barr Asia. “The wild share moves demonstrated investors’ concerns about regulatory tightening.” BLOOMBERG