A bull in a China shop

29th July 2015

Rowan Dartington Signature’s Guy Stephens gives his view on the fall of Chinese equities and its implications for global growth and investors

“Chinese equities are having a year to remember. To say it has been volatile would be an understatement – Shanghai shares were dealt another blow during trading this morning, tumbling more than 8% in what was its worst single session since February 27th 2007.

“While the fall followed some lacklustre data last week, this didn’t really explain the scale of the sell-off.  It is in fact all tied up with government intervention.  The original driver behind government intervention was the intention to encourage domestic investors to participate in the Chinese equity market. The first half of the year saw the Shanghai composite index gain in excess of 60% (over 170% in 12m) to its peak in early June, a rally seemingly fuelled by government action including margin financing provisions for leveraged purchases of equities, access to the Hong Kong ‘H’ share market via the Stock Connect programme and additionally the Central Bank making two interest rate cuts.

“Having risen so quickly, the index subsequently lost almost 30% in the space of just four weeks, which is one of the sharpest corrections seen since the financial crisis. This prompted the Chinese authorities to support the market by stepping in through various funds to buy shares.  It seems they were fearful of investors’s reactions to the large losses that were being racked up.  The action stopped the sharp falls, or it had until now – but it now looks like the market sensed the Government was withdrawing support, which may be the case, and is testing whether it had stabilised or not… it obviously hasn’t.

“China is the second largest economy in the world and is clearly going through a period of transition. Whilst it is questionable whether it is still accurate to refer to China as an emerging market, having been labelled as such, investors have become accustomed to seeing in excess of 8% GDP growth each year.  The latest GDP number is 7%, although there is quite a lot of scepticism around the accuracy of this. So any numbers or actions that disappoint will not be taken well.

“China is also seen as a proxy for the fortunes of the commodity sector and prices are the lowest they’ve been for many years.  The likelihood is that demand for commodities will remain depressed, affecting commodity-exporting countries such as Russia, South Africa and much of South America.

“The volatility in the Chinese market is one thing and will present a buying opportunity, but the knock-on effects of a slowdown on global growth will undoubtedly impact others. Developed markets have significant exposure to the resource sectors which have shown their sensitivity of late, dragging the FTSE 100, for example, back towards recent lows.

“Longer-term, China is on track to become the world’s largest economy and with its growing middle class and their aspirations, the outlook is positive – in the meantime though it is in for a period of volatility which could be with us for some while.”

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