China’s stock markets look like they could be heading for free fall again, after collapsing around 30% in just four weeks starting in mid-June.
That collapse was compared to the Wall Street Crash of 1929, with Bloomberg pointing out the similarity in the trajectory of the fall.
But Deutsche Bank says a better analogy for China’s meltdown is the bursting of the dotcom bubble in 2000.
While the fall mirrors the Wall Street Crash, Deutsche Bank says the rise is closer to the surge of the NASDAQ in the late ’90s. And, as with the bursting of the dotcom bubble, it’s the rise that’s key to understanding the undoing of China’s stock markets.
The Shanghai Composite rose over 150% between mid-2014 and its peak in mid-June 2015. The surge was down to huge numbers of ordinary Chinese people putting money into shares — 66 million new retail investment accounts have been opened so far this year, according to Deutsche Bank.
Many of these investors also used borrowed money for so-called “leveraged investing.” Deutsche Bank say around 10% of the value of Chinese stocks are held by leveraged investors.
The flow of all this cash into stock markets pushed up prices because demand was greater than supply. But the rising prices didn’t mirror improving company performance and prices are now crashing because many businesses are overvalued.
All the borrowed money tied up in shares in exacerbating the slump. People are being forced to sell to pay back the money rather than potentially wait the meltdown out and hope prices pick up again before cashing out.
While all this may explain the initial slump, Deutsche Bank’s Jim Reid says separately on Tuesday that the return of nosediving stocks on Monday looks “pretty random” — the mechanics of the market are so screwed that it’s hard to tell what’s going on anymore.
That means that while we can look to history for useful comparisons for China’s meltdown, they’re unlikely to be much good in helping us predict what’s going to happen next.
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