Should China stop its stock market crashing?

Yesterday was another short day for Chinese stock traders as trading was halted on the main exchanges less than half an hour after opening with falls in the 7-8% region:

michaelmcdonough

Put the falls into perspective though as the Shanghai Composite launched itself from ca. 2000 points to over 5000 points in less than a year:

ssec_ix_price_weekly.23aug13_to_20feb16

Intervention has been the name of the game for Chinese authorities, trying to arrest the natural decline of a bubble they blew up with full intention, enticing newly middle class Chinese into become day traders extraordinaire!

News has come in overnight that authorities are going to abandon the circuit breakers, as they rightly believe it is adding to the volatility and plays into the selloffs.

The broader question is, should they just let it all go? Jake van der Camp at the SCMP asks the very same comparing the massive rise of Chinese stocks compared to their Hong Kong brethren:

The blue line in the first chart shows the growth of the mainland economy on an index basis where January 2000 equals 100. The red line shows you the performance of the Shanghai Composite Index on the same basis.

 

 

 

 

 

 

 

They could be on two different planets. The economy booms mightily but the stock market just shuffles up and down a little with the occasional speculative rally and then falls back to where it was before.

In the second chart the blue line represent the Hong Kong economy on the same index basis and the red line represents the Hang Seng Index. I have taken this chart back further than in the one for the mainland as Hong Kong has had a meaningful stock market for much longer.

Here we have a market that is clearly grounded in its economy. The two do not move absolutely in tandem but it obvious that investors generally do well when the economy does well.’

And this is where there is a huge difference between the “new” China and for the most part, other developed market economies:

When governments treat investors as cows to be milked or chickens who lay golden eggs and spare no thought for the welfare of these cows or chickens, then what they eventually get is a failure on the farm.

Yes, a stock market is a mighty efficient way of raising needed capital for a growing economy but the customer still has to come first and the customer in this case is the individual investor who puts his money at risk in the stock market.

Reward him and he will reward industry with all the money it needs. In that kind of market, there is never a shortage capital. There is only ever a shortage of good ideas for the use of it. But ignore the investor and sooner or later he will exact retribution.

And things will only get worse with such daft remedies as telling people they may only buy stock and may not sell it or with so-called circuit breakers that stop trading.

The only workable remedy, and the authorities in Beijing will never take it, is to open the market wide, 24 hours a day with no trading restrictions, and let it fall where it may.

Yes, it will hurt but that pain is coming anyway. Why prolong the agony?

Indeed. But due to the interconnectedness of markets, just letting it go could have dire consequences for European and American stocks and be the trigger for the coming of the Mining GFC.

This has been a grand experiment, a microcosm of the way the Middle Kingdom has embraced the better bits of capitalism, but can the Chinese authorities get away with repeating the mistakes made by the Fed during the last GFC, etting Bear Stearns go to the wall and unleashing hell? Or can they push, nudge and cajole the market back down and only slowly extend the pain while providing monetary support and precedent for another bubble a few years down the track.

Stock markets more and more resemble casinos in the West and in the East!

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Comments

  1. Removing the circuit breakers is a good idea but because the damage to confidence has already been done and on top of that poor pmi, devaluation of the yuan and most important the imposed ban on not been able to sell shares if u have more than 5% which basically tells people the market is screwed anyhow I think it’s going to crash over 10% easy today

  2. Every strategy will produce other negative consequences some of which may bring on what is coming down the pipe even faster. For example, who would buy from Chinese firms and stump up a deposit, firstly the costs in CNY should be declining and secondly the firm might go POP with your deposit gone forever.

    From this point exports will collapse and the feed back loop (based on my view of the psychology) has begun and is now unstoppable!

  3. They are just late to the game, which is running down. Buy and hold died in 2007 and dollar cost averaging died with it. 10 year returns in the ASX are dropping quickly now.

    http://www.asx.com.au/documents/resources/russell-asx-long-term-investing-report-2015.pdf

    The ASX is just a function of bank dividends now, when they go the rest will go with them. Before we have a go at the Chinese lets see what our masters get up to when they start getting texts from Australians whose super keeps dropping every year, year on year.

    • Yep – the Dick Smith debacle tells us we have more than a few integrity issues of our own. ‘Customers’ are being stuffed on a daily basis by their agents…the Dumb and Dumber club that run our Super.

      • DICK SMITH: WHAT WENT WRONG?

        Private equity group Anchorage Capital bought Dick Smith from Woolworths in 2012 for an initial payment of just $20m.

        Anchorage then “dressed the company up to look good for just one thing – to persuade people to but shares,” according to analysts from Forager Funds Management.

        Anchorage “wrote down the value of the inventory, took provisions for future onerous lease payments, wrote down the value of the plant and equipment and liquidated a lot of the inventory as quickly as they possibly could to throw off cash,” according to Forager’s Steve Johnson.

        The cash was then used by Anchorage to effectively make Dick Smith ‘buy itself’.

        The writedowns inflated profits, a key factor in enticing investors into the company.

        For example: a stock item that may have been bought for $100 may have been in the books at $60 after the writedowns, which meant an extra $40 profit on every sale.

        The writedown of plant and equipment lowered depreciation charges, also boosting the bottom line.

        “But when they liquidated all that inventory to pay for the purchase price, they didn’t replace it,” according to Forager’s Steve Johnson.

        “And the new owners of the business, since it’s been listed on the stock market, have had to put in a lot more money to fund the increase in inventory.”

  4. This here Circuit Breaker – it must work both ways? So now there’s nothing to stop the CSI roaring up 10%; 20% on any given day either…..

  5. The Government doesn’t want to lose face. Expect the National team to buying like crazy at the open. Remember it is important never to lose face and look like you can’t control things, if your claim to power is based on being able to control the chaos. Every regime in China has ended when the chaos got too out of control.

    • > The Government doesn’t want to lose face. (…)
      I guess in their view – it is better to lose ass than lose face. ..oh wait – what they don’t know is that they will lose ass then lose face soon enough. What a difference a letter makes, no?

      • I would actually expect them to not open with a bang if they wish to preserve calm. If they open with a bang and the market rocket rockets up 10% then they will lose total credibility and instil even more distrust in the market. A calm open, down say 0.2 – 0.5% will do more to quell the problems than a big display.

        This said, I think they will go texas hold’em all in and blow the lid off

  6. Yes we should keep the Dow into perspective also 6500 to 18000 …if wishes were horses then beggars would fly.

    • Now that explains all the beggars I have had knocking on my penthouse windows. Thick as flies, have to shoe (pun intended) them away with the fire hose.

  7. This is unbelievably stupid of the chinese, controlling a market like this, then back flipping and taking the controls away. It’s no a longer a market, just a controlled ponzi scheme deflating. Apparently because the circuit breakers weren’t working and just made it worse, they’re now taking them away. Who would have thought that people would rush for the exits when they knew there’s a deadline lol it’s just amazingly silly and laughable – 7% isn’t really a massive fall, they’ve made it worse by not letting it play out naturally

    • The NYSE had the circuit breakers set too low in October 1997 where they kicked in at a similar levels. The problem was they had set a number of points of the Dow as the trigger (350 points and 550 points) but due to the rapid expansion those point falls were out of date and should have been set as percentages instead. Individual stocks should be able to fall by 10% in a day (particularly if things have gone sour for the company).