A few weeks ago I wrote a blog about the parallels between The Japanese Bubble Economy of the 90’s and how I see China now.
Today another concern to add to the list popped up, after the recent run-up of the Shanghai Exchange.
China is adding money to its financial system to fuel growth, as forecast growth rates continue to fall. While doing this, China’s leaders and state media are using the statement of a “new normal” of slower growth as expectation management on investors’ appetites.
I love the term “new normal” as a contrarian signal, telling me that it will not end anywhere like what is being expressed in relation to it. (As example: a “new normal” of low volatility from now on – I would see as high volatility to come!) The more “new normal” talk there is, and belief in the concept – the more it is impossible to be true.
A new normal of “slower, high quality growth,” is coming to China. Uhuh-sure!
When you pump money into banks to ensure liquidity, as recent history shows, its usually too late to save a bad outcome. And I don’t think anyone knows the depths to how bad the banking and property sectors are in China really – not even the government. There seems to be way too much regional government intervention and corruption for that.
Share buybacks, and state-owned company share investments, that were “encouraged” by the authorities, have pushed up stock prices enticing local and now foreign investors into the share market at elevated prices.
Due to this recent run in Chinese stocks (17% this month, 35% this year), China banks have suffered investor withdrawals to fund their entry into the stock market. Much of that has then been leveraged. Margin use in total trading has almost doubled since May, and non-bank trust companies are lending up to 300% of capital!
Loose margin requirements, which have not been tightened recently despite liquidity concerns, threaten only to cause more big drops similar to the decline Tuesday, that was the biggest one-day drop since the GFC, on fears of tightening requirements for margin credit.
Japanese use of margin at ridiculous levels, especially in property prices tells us that this kind of leverage is unlikely to lead to “slower but quality growth.”
This “new normal” could just be masking the high volatility to come. Clearly, investors do not seem to learn from history. Nor consider the psychological implications of a run of margin calls as banks with liquidity problems tighten up.