China’s Stock Market Collapse Worries The World

Seasoned observers aren’t panicking, but broader concerns are growing as Chinese stock markets tumble further into bear territory less than a month after hitting record highs.

A sustained fall, as analysts fear is in the works, risks slowing China’s larger economy, hampering a central government trying to build credibility while raising millions of citizens from poverty.

By Wednesday, more than half of publicly listed Chinese companies suspended trading their shares in response to the rout. The risk of contagion to global markets is limited, given the small number of foreign investors in China’s mainland stocks, but the crash is a growing threat to the world’s No. 2 economy and its fastest-growing one.

In light of all of Beijing’s effort to halt the fall, “I am a little bit surprised it has gone as far as it has,” said Sung Won Sohn, a professor at California State University Channel Islands.

Historically, there hasn’t been much parallel pacing between China’s stock markets and its economy, said Bill Adams, senior international economist at PNC Financial Services. But the steep fall of stock prices may drag other economic segments.

“In past episodes, I would have been less concerned than I am now,” Adams said.

Another Bad Day

The Shenzhen Composite Index fell 2.5% more to 1884 Wednesday, down 40% since its record close on June 12. The Shanghai Composite dropped 5.9% to 3507, down 32.1% since June 12. Even the Hong Kong-based Hang Seng Composite, reflecting a more mature market independent of Beijing regulators, fell 5.9% to 3149. That’s 21.6% off its April 27 52-week high.

The collapse in Chinese securities has defied Beijing’s efforts to stop the panic. China’s government promised more credit to finance trading and ordered state companies to buy their own shares back, helping to prop prices of shares still in the market. It also boosted the amount of equities that insurance companies are permitted to hold to 40% of assets from 30%. Limits on margin trading (borrowing money to buy stocks) and short selling also were dealt anew by regulators.

Executives now must buy more of their own firms’ shares if prices fall more than 30% in 10 days.

In spite of the government’s influence, markets move to their own logic and groupthink, and the sell-off’s ferocity caught some analysts by surprise. Morgan Stanley advised clients to avoid buying into China. Bank of America Merrill Lynch described China’s securities markets as a “falling knife” and said the bottom is “highly unpredictable.” The effects for Chinese investors, coming when China’s economy isn’t growing as much as the government would like amid a sluggish real estate market, could be long-term, they warned.

“The large losses could hurt current investors’ psychology severely and it may be years before the pain fades and/or a new generation of investors with no such bad memory emerges,” BofA Merrill Lynch noted.

Prices Still Super Hot

Chinese stocks still remain among the world’s hottest performers year over year. Shenzhen has soared 68.2%, while Shanghai, which opened for trading in 1990, has rocketed up 70% over the last year. That’s why analysts suggest an easing of the bubble, a “correction,” is superior to a deeper collapse.

“The market is still way ahead of itself, ahead of the fundamentals,” said Sohn, the CSU economist.

Hong Kong’s benchmark, which didn’t quite hit the mainland’s lofty highs, is down a manageable 2.8% from a year ago.

The number of new investors who entered China’s stock markets this year and more foreign investors have boosted the chances of global contagion, but not by much, said PNC’s Adams.

“It’s a risk worth watching, but I don’t think a 30% correction in Shanghai will have the similar impact as it would in New York, London or Japan. But it’s going to make it harder for the Chinese government to get more equity into the corporate sector.”