China's stock market bubble is destined to pop

When it looks too good to be true it often is. China’s stock market bubble, something that has seen equities soar more than 100% in less than 12 months, is destined to burst.

It’s a matter of when, not if, it will occur.

That’s the bearish-yet-increasingly common forecast from Hao Hong, chief China strategist at Bocom International Holdings in Hong Kong, who told Bloomberg earlier today that not only are Chinese stocks in a bubble, volatility is likely to increase before “a crash eventually happens”.

Here’s Hong on what’s driving the continued market gains.

“The combination of surging turnover and rapid price gains in China’s yuan-denominated A shares suggests a market peak is near as traders continuously test whether “the greater fool” will step in to buy”.

He predicts that after soaring as high as 6,100 points in the months ahead, the Shanghai Composite, up 134% over the past year, will crash before the end of the year.

Here’s a chart showing 12-month performance of the Shanghai Composite, CSI 300 and ChiNext, China’s high-tech index.

While not all share Hong’s pessimism there are signs that a bubble in Chinese stocks may be building. According to Bloomberg the average PE ratio for Chinese stocks is now 84 times earnings, more than double the level seen at the previous market peak in 2007, while the amount of margin debt used to fuel share purchases has surged threefold in the past 12 months to $US9.8 trillion.

This, along with a continued growth in new share trading accounts in China, makes for fairly compelling evidence. You can see it in the CBA-supplied chart below.

Following steep declines in the previous two sessions, Chinese stocks are currently down 1% in early trade.

You can read the full story from Bloomberg here.

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