WHEN a quiet resurgence in Chinese equities developed into a world-beating rally, it took many seasoned market watchers by surprise.
There’s little sign of a revival in spending by consumers and businesses that would dramatically inflate the earnings of Chinese companies.
Instead, the boom appears to be driven by hedge funds and retail investors seeking higher returns in an environment of low interest rates. There’s also optimism that breakthroughs in artificial intelligence and a government drive to address industrial overcapacity are about to kick-start China’s economy.
For now, official data isn’t pointing to an economic rebound, and there are already signs that share prices may be overheating, reviving memories of a stock market crash in 2015 that burned small investors. Financial authorities are under growing pressure to step in and calm the speculative fever.
What’s happening in China’s stock market?
The CSI 300 Index jumped 10 per cent in August, its best performance since a rally last September. Red flags have emerged. Market turnover has hit a record. The outstanding amount of margin trades – where investors borrow money to buy local stocks in the onshore market – has also surged to an all-time high, signaling a growing appetite for risk-taking.
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In an effort to curb speculative fever, mutual funds have capped daily purchases of some of the year’s best performing equity portfolios, and commercial banks have tightened oversight of clients using credit cards to fund stock investments.
What’s behind the sudden rally?
The money is pouring in mostly from households, whose savings are collectively at a record high.
With interest rates on savings drifting lower, some have been turning to equities for better returns. Wealthy investors have led the charge, often via hedge fund investments. But the volume of money heading into stocks is still relatively small compared with the trillions of yuan saved by Chinese consumers overall, and this is fueling speculation that the market rally has further to run.
Easing trade tensions with the US have helped to calm investor nerves. There are hopes that a government “anti-involution” campaign to combat price wars and fix overcapacity across various industries will break a deflationary cycle that’s undermined the confidence of consumers and businesses.
And China’s breakthroughs in artificial intelligence have led to hopes that national industries are poised for a wave of technological progress that will accelerate economic growth and boost corporate earnings.
Why are Chinese financial regulators concerned?
The country’s financial authorities face a difficult balancing act in trying to engineer sustainable growth in the stock market without causing investors to panic.
The Beijing government has made clear it would prefer a “slow bull market” that would allow for sustainable wealth creation and a durable boost in household consumption.
The last thing the authorities want is a sharp reversal following a rapid rally, which would inflict heavy losses on retail investors. But as the rally continues, analysts are warning of a stock market bubble that could pop unless corporate earnings prospects improve or the government boosts its support for the economy.
What might they do about it?
China’s financial regulators are considering a number of measures to cool the market. These include a removal of some curbs on short selling and various measures to rein in speculative trading, according to people familiar with the matter.
For now, regulators may have some breathing room before they need to intervene, as the involvement of retail investors in the stock market is still relatively limited by historic standards, suggesting the rally may not be as fragile as some market watchers suggest.
What’s at stake if the market doesn’t stabilise?
Much of China’s economy is still in the doldrums and suffering from a protracted real estate crisis.
With the government trying to kick-start household spending to offset the negative impacts of a trade battle with the US – the biggest destination for Chinese exports – the last thing it needs is a stock market slump that would further dent consumer confidence.
If the losses became too hard to bear, it could damage the social stability that’s the number-one priority for China’s leadership. BLOOMBERG
