Street views – China crashes but will it burn?

Below are a selection of views on the 6.5% decline in China that occurred overnight following a surprise hike in stamp duty by the authorities. From the currency trader’s perspective I note the relatively limited spill-over to the international equity markets and the currency markets, so far. This contrasts with February, when the Chinese market dipped by a smaller magnitude and the whole world shuddered as risk appetite took a temporary nosedive.

china-measures-ubs.jpg

(click on the image to see it clearly)

Goldman Sachs – China: Portfolio Strategy (May 30):

Near-term pressure is inevitable The A-share market boasts the highest turnover velocity globally and higher transaction costs could, at the margin, suppress speculation. Small caps driven by excessive speculation and richly-valued brokerage firms could get hurt. Any contagion effect on H-shares should be short-lived, however, and could lead to buying opportunities.

Without a proper adjustment of interest rates and exchange rates, we do not think raising stamp duty is an effective tool over a longer-term horizon. As such, we reiterate our view that the government should further raise interest rates, particularly when inflation risk is skewed to the upside given the recent rise in meat prices, to normalize negative real interest rates to positive territory.

JP Morgan – China: Economics (May 30):

JPMorgan always has this kind of non-market consensus view on how the government would come out measures to keep the A-shares in check without killing the economy by massive macro tightening as argued by the rest of the street. If you noticed ever since the Rmb band has been widened, Rmb has been on an accelerated path of appreciation. Together with further QDII expansion and less macro tightening on the economy, we believe these developments are actually positive for H-shares and the MSCI China world.
Note that even a 20% correction in the A-Shares should have very limited impact on the real economy. Total float market cap is only about Rmb6 trillion compared to the total savings of Rmb36 trillion, and a portion of the float in the retails hands as they only got into the market recently.

In 2001-2005 when the A-shares market suffered a long bear market when the A-shares index dropped from 2300 to sub 1000 level, the real economy kept growing at around 10% rate for the years, and H-shares and MSCI China experienced one of the best bull market. There should be little correlation on A and H…and this time at most we believe there will be a decent correction in the A-shares, not a bear market.

Morgan Stanley – Economics (May 30)

This tax change should be taken seriously, as the message it delivers is very strong, although a 0.2% difference in duty is minimal for investors.

Implications: The A-share market reacted aggressively to this because: 1) It breaks the perception that the government will leave asset prices to the market, and will not interfere by using administrative measures; 2) 0.3% is among the highest stamp duties in the world – it only targets the stock market bubble, and does not serve any fiscal revenue purpose; 3) it leaves the market with a lot of room to imagine “what’s next”; 4) the financial hit on speculators will be real, as the whole market is changing hands in less than a month versus more than a year back in 2005.

What’s Next? I think it depends on the market’s movements. If the market rebounds quickly and ignores the message, more austerities, such as the introduction of capital gain tax and stock shorting/index futures are possible to contain the quickly inflating asset bubble.

And some interesting charts from Nomura Quantitative Research:

china-bubble-comparison.jpg

(click on the image to see it clearly)

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One response to “Street views – China crashes but will it burn?

  1. Pingback: Good to Go Pile . . . « Trading for the Masses

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