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Home | Finance | Stock Market The press has been full of it for the last 6 months; China’s stock market is overheating. More than 130% up last year and over 50% already in 2007. The increases in values are not sustainable and there has to be a correction soon. Are these the same people who have been telling us that the US market will correct dramatically and that the mortgage crisis in the US would not soften the housing markets? Sometimes I wonder why we listen. Let’s look at comparisons; I mean real comparisons as we cannot compare what is happening in China with what has happened previously in the US, UK and other developed markets. Take a market like Vietnam that is just starting to open up, has too few stocks and where there is a natural tendency to speculate. Vietnam 3 yrs market history chart: -www.ideas2earn.com/images/vnmarket.bmp As you can see from the graph the dramatic spurts of growth have not led to a crash. Although there have been a couple of dips, which has caught out anyone who bought into the newly issued funds at the end of 2006 intending to only keep them short term. The China market although arguably more mature and with a larger number of stocks is surprisingly similar because of the scale of China. It is hard to imagine just how large the country is, or to get your head around the 1.3 billion populations. There are currently about 100 million registered investors in the market which works out approximately to 7.7% of the population. Many westerners are thinking in terms of western markets and saying that the PE ratios are too high and that many stocks would take 40 or 50 years to realise their implied value based upon current earnings. These guys are missing the point entirely; these companies (like the ones in Vietnam) are not going to keep generating today’s incomes for the next 40-50 years. Current growth rates are approximately 11% per annum which infers a doubling of the entire economy every 7 years. If the growth can be sustained then the 50 year PE falls effectively to 17 years, which would be acceptable in western markets. I know that 11% per year growth is unlikely to be sustainable but it is far more likely in markets like Vietnam and China than it could ever be in markets like the UK and the USA. These countries are effectively going through the industrial revolution but in China’s case on a massive scale. Granted at some point it has to stop, as we saw in the 1930’s when everyone thought that the markets could never go down. The question therefore should be how long can China keep growing, and are the forecast earnings of the big companies unrealistic? In truth many consumer companies are only just starting to scratch the surface in China, it is highly likely that the big brands will be able to far exceed the economy as a whole in the coming few years. It is likely that the currency will need to deflate further and there are probably going to be some growing pains as inflation kicks in, but the sheer size of demand within China for items that we consider as necessities such as TVs, refrigerators and cars is enormous. Average incomes are still only around 3000 Renimbi a month which is a little under US$400. In the big cities this is dramatically higher and the big cities are growing at an enormous rate. Shanghai is now home to more than 17 million people. Another key factor that is likely to fuel growth is that China is just about to approve the use of mutual funds which invest in overseas companies. You might think that the obvious targets would be IBM, Coca Cola and McDonalds and I am sure that these will be popular in time. Initially however the stocks that are most well known overseas are the ones with a duel listing in China. Many of these trades at a discount on overseas exchanges compared to local ones and will be seen as buying value by the local fund managers. Fund managers cutting their teeth when trading on overseas markets are most likely to want to trade with markets where they can speak Chinese and they understand the companies that they are buying. I would expect therefore to see a glut of Chinese money going into Hong Kong and initially into Chinese owned companies. This is likely to filter outwards once the dealers are more comfortable and we will probably then see a lift in the US market. Unfortunately China is unlikely to learn from the West in terms of what causes massive stock market crashes, 80 years on we still do not seem to have a full consensus on what triggered the 1930s crash and in truth it was probably a combination of factors. Wikipedia has some great materials on this and I won’t reproduce them here. What is clear is that central bank, and government intervention in markets can cause unpredictable behaviour amongst investors. This may be the reason that CNN reported this morning that the current prediction is that China’s government will not intervene in the markets prior to their party conference in October, and beyond that may elect to do nothing until post the Olympic Games in the summer of 2008. My question would be how you could ever take that leap of faith without some kind of expectation that the market can carry on growing for that long? Would it be worse for the Chinese government to deal with a crash that they had instigated prior to the Games, or to deal with one caused when they did nothing during the Games? The potential loss of face either way could be huge. What is not being reported on anywhere, presumably because it is just too scary, is what the likely reaction will be of the 100 million people who stand to lose all of their hard won fortunes if something drastic were to happen. My feeling is that the government would be far more likely to intervene in the event of a crash than it would be to intervene beforehand and risk causing bedlam. Article Source: http://www.articlewheel.com
Brad Emery works in Life Isurance in Asia and is currently based out of Shanghai. He has 7 years experience in Asian markets and a life long interest in China. his knowledge of economic theories is at best limited! Brad runs www.ideas2earn.com a website dedicated to sharing ideas for starting businesses with would be entrepreneurs. His goal is to write an idea every day this year and is on track at the time of going to press with 137 ideas completed.
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