Chinese Stocks: Bubble Or Bubbly?
Shu-Ching Jean Chen 01.31.07, 5:00 PM ET
By This Author
HONG KONG - How far would the seemingly almighty Chinese government allow the current bull run in domestic Chinese stocks to go?
The answer, as it turns out, varies from less than a year to as long as three years, depending on how you look at the Chinese stock market, this unique boiler room that was a pure Chinese invention.
China's domestic stock market presents Beijing a perpetual dilemma. Just as its efforts to jump-start a moribund market start to pay off, it finds itself needing to calm things down.
On Wednesday, the Chinese government launched what some viewed as an inaugural effort at jawboning a cooling off without taking any overt actions. In Dubai, Cheng Siwei, vice chairman of the National People's Congress and a leading Beijing financial figure, warned that barely a third of the companies listed on the Shanghai Stock Exchange are even worth investing in, while the rest are likely to lose money.
Chinese stocks promptly cratered across the board. The principal Shanghai averages promptly shedding 6.5%--the biggest one-day drop since the indexes were introduced nearly two years ago.
An enclosed space of its own, the stock market in China, consisting of two domestic stock exchanges in Shanghai and Shenzhen, has been the subject of extreme volatility due to its isolation from international market forces and the inclination toward official intervention and man-made manipulation. Excess domestic savings, combined with the lack of investment options in a tightly controlled economy, produces a highly unpredictable caricature not seen elsewhere.
After staying in the doldrums for more than four years, the Chinese stock market had staged a dramatic comeback with a vengeance, prompting fear of another round of bubbles bursting.
The benchmark Shanghai composite index continued to set records, peaking at 2,933.19 points last week, up 9.6% since the beginning of the year, on record turnover of 104.86 billion yuan ($13.5 billion). It was the best-performing market in Asia in 2006, and more than doubled itself in that year's time. The sudden renaissance of Chinese equities follows a prolonged weakness, posing a sharp contrast to an extraordinary concurrent boom in the general economy.
The risks for a stock market that runs amok have been growing by the day. A massive shift currently underway involves millions of retail depositors moving household financial assets from banks into equities, in ways mimicking the great migration of China's rural population into the cities. That means more of the Chinese population than ever before would be put at risk if the bubble bursts.
BNP Paribas' head of China research Erwin Sanft estimates that the percentage of Chinese personal financial assets invested in stocks has risen to 11.38%, from less than 4% before 2005, and could easily top 15%, a level still only half the global average of 30%.
"The stock market could still double if the government does not intervene," says Andy Xie, a regional economist until recently with Morgan Stanley before his sudden dismissal, reportedly due to an internal e-mail involving scratching comments about the Singapore government.
"Right now, they are trying to slow the market down. But I am not sure those measures are enough," Xie said, even before the remarks of Cheng Siwei. Xie warned that the result of a belated intervention could weaken the economy, create social problems and destabilize the Chinese society as retail investors, the main losers of these radical boom and bust cycles in Chinese stocks, could find their holdings battered again.
Hu Xingdou, an economist at Beijing Institute of Technology and a well-known blogger, describes the Chinese stock market as being in the state of an "irrational prosperity," but says drastic government action to prick the bubbles is unlikely before the 2008 Summer Olympics in Beijing, an event widely regarded as the coming-of-age ritual for China onto the world's stage.
"These bubbles would continue to build up before August 2008. The Olympic Games could be a turning point. What comes after that is hard to predict. Are we going to have a crash in real estate and the stock market?" Hu says. "For sure, retail investors would be the ones to get burned, as always was the case."
Xie says the high price-to-earnings ratio for domestic Chinese stocks, at an average of 25 times earnings for 2007, might not reach the insane 60-times-earnings ratio back in 2001; still, he says, 25 is high by the market's generally poor earnings quality, which would justify a fair valuation closer to 15 times earnings.
In particular, he warns against the mania for financial and banking stocks, pointing to their average price-to-book ratio, which is the world's second most expensive. (India has the most expensive ratio.) Still, many of these mainland Chinese institutions lack proven track records for earnings.
Xie also argues that there's not much room for the Chinese stock market to grow before it catches up with the size of the overall economy. China's stock market is no longer as small as generally believed. When factoring in the big Chinese companies listed in Hong Kong, including such real giants as the country's largest bank, Industrial and Commercial Bank of China, and its largest mobile telecom operator, China Mobile Communications, the market value of the Chinese equity universe would equate to 90% of its gross domestic product, on par with the global average.
For the moment, domestic securities brokerages are united in their rosy outlooks for the year, with a projection of up to 35% growth from large brokerages such as Shenyin & Wanguo Research and Consulting. But such growth will be largely a domestic affair, given the value of tightly controlled quota for foreign participation, equal to less than one week of trade in Hong Kong.
Even an early official intervention this year would not end the sharp swings typical of Chinese stock market, Xie says, if there is no liberalization of the broader economy and a radical privatization spree of state-owned companies, which form the bulk of Chinese equities.
Link: forbes.com |
