China’s stockmarket melt-up will end in tears

China's stockmarkets are up by 13% so far this year, but the rally could end in a brutal crash.

China is on course for a “swift ‘V-shaped recovery’”, says Gurpreet Narwan in The Times. Post-lockdown industrial indicators have been improving for some time, and now consumers have joined in the rebound. The services sector is advancing at the fastest rate in ten years. 

China’s thorough approach to eradicating the virus has enabled consumers to feel confident enough to go out and spend again, says Jonathan Cheng in The Wall Street Journal. The economy suffered its first GDP contraction in decades in the first quarter, but the International Monetary Fund thinks that China will be the only big economy to register growth for 2020 as a whole.

The bulls are back

The positive data cheered markets, helping the local CSI 300 stock index rally to its highest level since the summer of 2015. The Chinese market is up by an impressive 13% so far this year, compared to a 2% decline on the S&P 500. The gains came despite Beijing’s imposition of a “national security” law in Hong Kong and worsening ties with Washington. 

US legislators last week approved new banking sanctions targeting Chinese officials involved in the Hong Kong crackdown. Measures that could force Chinese firms off American stock exchanges are also in the pipeline.

Optimistic markets have short memories. It was only in January that Washington and Beijing agreed to pause their tariff war as part of a “phase one” trade deal, says Mayaz Alam in The Diplomat. The renewed diplomatic strains have brought this “brief détente” to an end. Post-pandemic China will not be able to honour a pledge to buy $200bn of US products. There is a real risk that we are heading for more tariffs, undermining a fragile global recovery. 

It is clear that the long-term trend is towards more competition between the two powers, says a Morgan Stanley research note. This “disassociation” will usher in an era of stagnating or reversing globalisation dubbed “slowbalisation”, but the effects will vary by sector. 

Barriers are rising for international technology, telecoms and aerospace companies, but consumer businesses such as drinks, media and luxury should continue to operate across national boundaries. 

A warning from 2014

The CSI 300’s 14% gain over five days last week resembles the 2014 “melt-up” that preceded a brutal 40% crash, says Bloomberg. The media has been hailing a “healthy bull market”, prompting a surge in online searches for how to open a stock account. Still, for now valuations are less extreme than in 2014 and authorities are more alert to the dangers of leveraged traders. But the equity boom comes despite a 51% fall in non-financial corporate earnings in the first quarter, notes James Kynge in the Financial Times. As in 2015, gains are detached from the profits picture. Easy money and media cheerleading could bring more upside in the short term, but history shows that such “sentiment-fuelled” rallies “end in tears”.

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