Commentary on Political Economy

Tuesday 7 July 2020

Chinese punters swallow 

Beijing's bull shift

Chinese state media have been spruiking stocks and punters have dutifully hit the bid. History says this will end in tears but the rally may be huge.
Robert Guy
Robert GuySenior Writer
Beijing has shown up the Federal Reserve on how to really operate a casino stock market.
While Federal Reserve chairman Jerome Powell mucks around with quantitative easing, "transmission channels" and the "portfolio balancing effect", Beijing instead just unleashes its financial state media to spruik the need for a bull market and the nation's punters dutifully hit the bid.
The bulls are on parade as Chinese state media talk up the sharemarket rally.  Bloomberg
The blunt display of command and control has triggered an impressive rally in Chinese stocks, with the CSI300 Index - which includes stocks listed in Shanghai and Shenzhen - having rallied 15 per cent since June 29.
The spasm of speculation will elicit flashbacks to past episodes when the uncontrolled, highly margined stampede into stocks turned pear-shaped, forcing Beijing to mop up by coercing - sorry, encouraging - brokers and fund manager into "national service" to backstop a plunging market.
If history is any guide, this will end in tears.
However, history also shows that once a rally gets rolling in Chinese stocks there is good money to be made for those with a stomach for volatility and the nous to bail before the average punter gets crushed in the inevitable reckoning.
The rally from mid-2014 to mid-2015 is a textbook example of speculation with Chinese characteristics. From around 2000 points to over 5000 points, the CSI300 Index nosedived around 45 per cent by February 2016.
That's not to say there aren't good reason for Chinese stocks to be rising.
The latest economic data show growth is rebounding in the world's second-largest economy.
Being the first major economy out of lockdown and containing mini coronavirus outbreaks, it's little wonder investors - retail, institutional, and offshore - are showing interest given the second wave threat in other leading economies such as the US.
The Caixin services purchasing managers index surged to its highest level in a decade in June. Manufacturing PMIs also show an expansion in activity, albeit not as strong.
One weak spot has been the consumer, with retail sales remaining weak amid higher unemployment.
The rebound has been assisted by the People's Bank of China easing monetary policy across important rate benchmarks like the loan prime rate and medium-term lending facility, but also through targeted rate cuts for small businesses.
The central government has unleashed additional stimulus, including resource intensive infrastructure spending, which is good news for Australian miners.
China's budget deficit will rise to "at least" 3.6 per cent this year compared with 2.8 per cent in 2019.
China's bond market has reflected hopes for an economic recovery and the rotation of capital out of safe-haven assets into riskier stocks.
The yield on its 10-year bond has jumped from 2.5 per cent in late April to 3.1 per cent.
A steeper yield curve is also telegraphing a stronger growth outlook. China's yield curve has steepened from a low of 60 basis points in mid-June to 76 basis points.
And despite the recent gains in Chinese markets, the valuations of stocks included in investible indexes look cheap compared with rich multiples in other markets.
The MSCI China trades at around 14 times prospective earnings compared with the MSCI US Index, which trades on a forward multiple of around 22 times.
Chinese stocks may look cheaper but there are manifold risks.
China's major export markets are struggling to regain their footing, the banking sector remains vulnerable to bad debts accumulated since the global financial crisis, and the nastier edge to US-China relations remains a flashpoint not only for investors in Chinese stocks but the entire global economy.
Bulls should remember it was only six weeks ago that Chinese Premier Li Keqiang warned of "great uncertainty" as an excuse for dumping its long-standing GDP target.

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