A big swing up – and back down – for Chinese stocks at the start of the week spoke more eloquently than any analyst could about the market’s extreme sensitivity to any hint of price-curbing measures in China’s overheating property market.
And it’s also shed some light on the role of the country’s restricted A-shares.
After suffering big sell-offs ahead of the recent slide in western markets last week, Chinese stocks surged 3.5 per cent on Monday, their biggest gain since November, largely on reports that the government may defer a planned property tax for several years.
But on Tuesday, the Shanghai market closed down 1.9 per cent on a fresh media report that the government was preparing to step up measures to curb property prices.
As Bloomberg reports, the Economic Observer, a local newspaper, said Shanghai would start a property tax trial next month. In fact, the paper had run a report last month about the trial tax, also in its online English-language edition.
Tuesday’s reconfirmation nevertheless prompted some bearish predictions from analysts of a double-dip for the economy, barely a week after another round of property-induced fears hit stocks.
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The answer is in the A-shares
Some commentators however are looking beyond immediate fears of property curbs, and asking whether the fall in China’s A-shares is an early warning.
A-shares are traded on mainland China’s exchanges solely in renminbi, and are available to a limited number of foreign investors accredited under China’s QFII – Qualified Foreign Institutional Investor - scheme. This is opposed to H-shares, which are incorporated in mainland China but also listed in Hong Kong.
Following some changes to the rules late last year, there are now 95 QFIIs, with a total $17.1bn of approved investment quotas granted to 88 QFIIs at the end of March, according to CLSA Securities.
A-shares traded in Shanghai have traditionally sold at a wide premium to H-shares – averaging 40 per cent during the past three years. But the gap has been shrinking, reaching about 6 per cent earlier this month, according to the FT.
At the same time, there is a growing perception among some analysts that the Shanghai A-share Index is acting as a leading indicator for US equity markets, noted MarketWatch’s Craig Stephens on Monday.
Stephens cites United-ICAP, saying it has observed the trend since 2007, when the Shanghai market fell in advance of the Dow and also bottomed first in October 2008, while the Dow did not bottom until March 2009.
As of Monday, after three days of gains, the Shanghai market was down 19 per cent from its April peak, while after last week’s falls the Dow was down just 9 per cent, he noted.
CLSA made a similar point in a recent strategy note, saying: “The negative price action since late last summer in Chinese A-shares and Hong Kong-listed Chinese property stocks looks more and more like the key lead indicator for the global risk trade.”
Of course, adds Stephens, “thinking of China’s stock markets as a leading indicator for global markets is quite a leap”. He continues:
While conventional wisdom is that equity markets are a lead indicator of economic activity, this is generally dismissed in China, where its stocks markets are considered irrational, with little correlation with the economy…
…But perhaps China’s stock markets are more important and rational than we give them credit for. Few would question the importance of China’s giant economy — but downplaying the importance of its equity markets may be foolish as well.
Indeed, adds CLSA’s Christopher Wood in his weekly Greed & Fear newsletter, China’s A-shares now look “even cheaper relative to history”.
With the A-share market having broken down technically in recent weeks from its trading range since late last summer, Wood’s estimate is that the potential “worst case” bottom could be around the 2,300 level on the Shanghai Composite Index.
This, he says, assumes a “soft landing” of a 25-30 per cent decline in residential property prices, then to be followed by a resumption in transaction activity as buyers are attracted by lower prices. In this scenario, Wood ventures, A-shares should bottom first, prior to the H share market, as was the case in late 2008. He adds:
Looking beyond the next three months of likely continuing focus on “tightening”, the above is creating a buying opportunity in A shares which is why investors should look to use the current opportunity to look for A share capacity under the QFII scheme.
On the question of investing in Chinese stocks, meanwhile, in an economy that is “uniquely policy-driven”, Stephens advises: “Forget GDP growth numbers (which are widely considered to be unreliable) and instead, follow policy changes”:
Beijing’s far-reaching grip on the economy means policy pronouncements can be particularly impactful. Nomura notes for example that for H-shares, they consider over 75 per cent to be policy-driven, counting those where the government directly controls prices, in addition to banks and property that are directly impacted by tightening measures.
So, watch China’s policy makers and its A-share markets, he concludes:
If we believe that A-shares are a lead indicator, they appear to be telling us that not only is China’s growth not as strong as the numbers suggest, but that global growth too is also looking suspect. We can expect increasing discussion on whether we are now facing a double-dip recession.
And on a final bearish note from CLSA’s Wood, in a comment article in Tuesday’s Wall Street Journal, he, too, discusses prospects of a double-dip recession – and the role of China’s policymakers, concluding:
Beijing has been signaling that it will resume incremental appreciation of the renminbi by the middle of this year. But with the renminbi having appreciated by 24% against the euro since late November, China’s leaders may be having second thoughts. A trade row between China and the US on top of the growing concerns about a “double dip” in the West is the last thing markets will want to contend with. But they may have to.
Related links:
China’s stop and go measures – China Financial Markets
Shanghai’s market feels weight of its own success - FT
China’s bright-ish future according to CLSA – FT Alphaville
China – first the banks, now the corporates – FT Alphaville