“Muppets” was the assessment today of one Sydney-based investment manager, who runs several billion in assets, about people in the market who didn’t think the collapse in Chinese stocks would mean much beyond China.
“When a stock bubble pops in the world’s second largest economy it is going to have an effect,” he said.
The 30% fall in the Shanghai Composite over recent weeks has had almost no effect on other equities markets around the region. But today as Shanghai tanked again – even though half of all the companies were in a trading halt and the government announced it would start buying stocks of all sizes – that has changed.
The falls came after Beijing mouthpiece The People’s Daily insisted the government “is capable and confident it can maintain the capital market stable and sound” and it was an “an urgent task to bring the A share market back to a rational track, as volatility of the market is detrimental to the sound and stable development of the capital market”.
So much for that. Shanghai opened down 8%, recovered to losses of around 3.5%, then got hosed at the end of the session to close at 5.9% down for the day.
The reverberations were seen around the region. Just to take Australia as an example, the market was down just a little before trading began in Shanghai, with mining stocks slipping after overnight falls in global metal prices. Once Chinese trade began, however, and the Shanghai Composite fell around 8%, the Australian market started selling down heavily and finished the day 2% down. Here’s the chart:
All other major bourses in Asia finished in the red. Hong Kong’s Hang Seng was down 8% at the close in its biggest one-day fall since the GFC. The Nikkei was down more than 3%, Singapore’s Straits Times Index was down 1.5% after being up in early trade.
Chris Weston, IG Markets’ chief strategist in Sydney, said that “we have for the first time seen real selling coming into the ASX 200 on Chinese stock weakness”.
There are lots of valid reasons for the market ignoring China’s correction to this point. Prices were self-evidently at ridiculous levels, and the exposure to equities is mainly among retail investors rather than large systemically important financial institutions. Stocks are only a small proportion of the Chinese economy, households tend to prefer deposits to stocks, and and the losses are only among people who have bought over the past four months when the runaway bull market took hold.
And anyway – so the theory goes – the command of China’s leadership over most aspects of the economy means authorities can effectively bail out the market whenever it wants.
However, none of the Chinese government’s many, many measures have managed to put a floor under the market. So the conversation has turned. Markets are now considering not just the implications for the companies involved and for retail investors, but what the implications might be for China’s political leaders and their ability to manage broader reform of the economy.
This is a vital shift in how markets are assessing the global outlook. The Economist argued on its Free Exchange blog today:
The government has staked much credibility and prestige on the stockmarket. When the going was still good, the official press was chock-a-block with articles about how the rally reflected the economic reforms that Xi Jinping, China’s top leader, was set to push. Li Keqiang, the premier, said repeatedly that he wanted equity markets to provide a bigger share of corporate financing—comments, from punters’ perspective, not unlike waving a red cape in front of a bull. The sudden end to the rally is the first major dent in the public standing of the Xi-Li team.
Soc Gen’s global economics team also alluded to this in their Asia morning call note today, pointing out that the risk is starting to spread around Chinese institutions and with it the risk that Xi Jinping could be forced to slow the pace of market reforms. Here’s Soc Gen:
We think that the rescue plan could potentially increase the systemic risk down the road. Initially most of the stock market risk was with households, but with the rescue plan, systemically important institutions are taking up more risk when the market is still under immense downward pressure. Our biggest concern is that the progress of structural reform could suffer as the result.
Some of the measures Beijing has been rolling out have been extraordinary. The public service pension fund has been allowed to buy stocks for the first time. Insurance companies have had the cap lifted on their equity exposure from 30% to 40%. Margin lending restrictions have been loosened. Brokerages have been buying tens of billions of dollars’ worth of ETFs on the direction of the government. First the government decided it would buy blue-chip stocks to bolster the market; today it announced it was getting into small and mid-cap companies as well. In an advanced western market any one of these would be a sensational intervention and, all things being equal, stoke some market excitement in the process.
The potential damage to Beijing’s authority by the bursting of the bubble introduces a new element to the China outlook which is poison to any market: uncertainty. It has been the central force in the market swings brought on by the standoff between Greece and its creditors making the future of the euro so unclear. The realisation that, as the Greek crisis comes to a head, the brakes might be on economic reform in the world’s second-largest economy are another big question mark on the outlook for global growth.