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Is There More Bad News for Chinese Stocks?

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China Stock Market

Is There More Bad News for Chinese Stocks?

Aug 4 2015, 10.01am GMT

STOCK.com

The Chinese stock market enjoyed an amazing bull with prices skyrocketing in an upward move that started in September 2014. The Shanghai Composite index moved from 2,000 in July 2014, growing almost 300% to peak at 5,600 in June 2015.

Following the selloff that started in June, the index currently stands at around 3,622, having lost almost 35% of its value.

According to Guggenheim Chief Investment Officer, Scott Minerd, investors were able to pile into the market on the back of ever increasing margin debt that peaked at 9.6% of the market cap, as equities reached their highs in mid-June.

CNN Business reported on 15 June 2015 that “China’s stock market is now worth over $10 trillion” with the Shanghai Stock Exchange weighing in at $5.9 trillion and the smaller Shenzhen Stock Exchange at $4.4 trillion.

Correlating this with the 9.6% margin figure from Scott Minerd, it appears that $1 trillion was owed as a result of margin trading as the market peaked.

Minerd also wrote in a blog that, “while margin debt has begun to unwind in the midst of the latest stock selloff, there is still a great deal of margin debt outstanding, meaning more turbulence could lie ahead for China’s stock market. If Chinese policymakers don't alter course soon, the current Chinese equity-market correction could turn into a stock market plunge similar to what happened in the United States in 1929.”

Chinese academic, bureaucrat and margin trading proponent, Nie Qingping headed a task force that set out the rules for margin trading in China which was legalized in 2010.

A state owned company, managed by Nie, China Securities Finance Corp. was established in 2011 with the objective of providing liquidity to brokerages offering margin trading, setting the scene for the uncontrolled bull run that followed.

Nie published an article in Caijing magazine on 20 March in which he played down concerns about the role played by margin financing in ballooning stock prices. He said that calling the increase in stock valuations a “leveraged bull run” was inappropriate, since investors saw value in stocks and the borrowings were to invest in blue-chip shares.

The irony is that Nie, as head of China Securities Finance Corp. which has been tasked with stabilizing the markets, finds himself in the situation of having to fix what he broke. The agency has already purchased stocks to a value of $4 billion in efforts to stabilize the market in the face of the massive selloff and plunge in stock prices.

Scott Minerd expressed the view that a steep market drop followed by a rebound would establish the base for the next big rally on Chinese markets while a 1929 type crash may not be so bad for the United States.

He added, “A Chinese slowdown will put energy and commodity prices under pressure, which will benefit U.S. consumers and U.S. manufacturers as prices fall, and should help support earnings in the near term.”

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