Trading floor of the Shanghai Stock Exchange [Baidu]

Introducing a "margin-trading" system, under which brokers can fund investors' stock purchases, to ETFs can shore up demand for the derivatives and enlarge their size, the exchange said in a research note.

The bourse also suggested that regulators should allow ETFs to subscribe to newly issued equities as part of efforts to bolster returns and woo investors.

"We found the scale of ETFs has been shrinking partly because of lackluster demand and low market liquidity," said Liu Ti, chief researcher at the Shanghai bourse. "Measures should be taken to spur investor appetite."

In 2004 China introduced ETFs, derivatives that track underlying stock gauges to benefit from broad-based market rises, in a bid to deepen its capital industry.

The country now has four ETF products, with three to track blue chips and one to cover small- and medium-sized firms.

However, the combined value of the ETFs is below 10 billion yuan (US$1.3 billion), accounting for only one percent of the nation's mutual fund industry.

The size of the SSE 50 ETF, which invests in top 50 Shanghai-listed firms by market value, has slipped to nearly three billion yuan from a record 10.6 billion yuan in August, 2005, the note said.

Market watchers believe part of the reason behind the lack of demand for ETFs was the stock boom last year, which made actively managed funds beat passive counterparts.

But with the market turning more steady, index-linked products may prove to be a safer bet for investors, analysts said.

To beef up trading, regulators are considering a plan to permit brokerages to pool clients' securities for the first time to apply for units in domestic ETFs, sources told Shanghai Daily late last year.

ETFs are now available on subscription by retail investors during a short sales period before starting trade on the stock exchanges.

Anyone who wants to apply for more after the initial marketing period must either own all the fund's constituent stocks or have capital of at least 500,000 yuan.

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