Is China's bubble ready to burst?
While Europhiles focus on the deepening disaster that is the Grexit, there is another financial crisis that is hammering the Australians Stock Exchange (ASX) – it’s the situation in China that the world is watching with growing unease.
Over the last few weeks, the Shanghai Composite Index (SCI) has been smashed – falling 25% from 5,166 on 12 June to 3,727 at last night’s close. So, what’s happening?
Firstly, much like the ASX crash of 2008, it’s important to look at the long-term trend for the SCI. This time last year, the market sat at 2,059 – so the growth over the last twelve months has been stratospheric. That’s an increase of over 150%, and much larger than the overall economy which grew at around 7% for 2014.
Pat of the reason for this correction is the amount of immature investors that entered the market as soon as it began to shift in the early months of 2014. Sensing a greater opportunity for returns than through, for example, property, the market received strong attention from buyers who were heavily leveraged through borrowings that allowed them to buy stocks.
To put it simply: borrow at a cheap rate, make a quick buck, then cash in.
Source: Bloomberg
Except that many haven’t as the market surged as the temptation to go for a bigger win grew greater. Similarly, new investors who feared missing out on the money others were making poured even more money into overvalued shares, and the cycle continued.
Now the bear market has hit, and investors who borrowed are sitting in the red. With signs showing the situation only getting worse, money is being pulled out even faster than it was put in, and the SCI is slowly coming back to where it really should be - somewhere around 2,500 points.
As always, shaky markets have global implications, and a wobbly China will always hammer commodity prices. This morning’s casualty has been iron ore – down 5.1% overnight and 12% for the last fortnight – completely in line with the plunging SCI.
Hang in there – it looks like a couple more rough weeks to come.