Olympic Excitement Doesn't Impress China's Market

The Olympic opening ceremony Friday was truly a spectacular event and left a lot of people here, at least among my students, with a sense of nearly euphoric pride.  I watched the ceremony on television at D22, my music club near Peking University, and during the ceremony I received dozens of phone messages from current and former students – most of whom were at home in various locations around the country – expressing their excitement and happiness about the magnificent display their country was putting on, and I suspect several of them were near tears. I know a lot of people around the world were disturbed by what they thought was an ugly nationalism associated with the event, but I have to say that among my students and friends, the feeling was a very inclusive joy and pride, and it was infectious. All of us, Chinese and foreign, were in a great mood that night. 

We are still marveling at the technological and theatrical prowess displayed, and in D22 – and in many other bar and restaurants, no doubt – the first hour of the ceremony was regularly interrupted by cheering and whooping, although the nearly interminable subsequent march of 204 national teams dampened the mood somewhat (and is, in my opinion, one of the strongest arguments against the granting of independence to too many small countries).  The weather is not very good (in fact as I write this it is pouring rain outside) but Beijing is nonetheless in a festive mood. 

The stock market, however, has decided to buck the festive trend.  On Friday, in spite of the tremendous anticipation is the air, the market had a sloppy day until, mostly in the last hour, sloppiness turned into what seemed like panic selling that saw the SSE Composite drop 121 points, to close at 2606, or down 4.5% for the day.  

Some analysts blame renewed worries about security and terrorist attacks (and I see in the press that over the weekend there were more terrorist attacks in Xinjiang province, with at least five dead), while others claim that investors were anticipating the announcement of additional government measures to shore up the market during the Olympics, and when no announcement was made, they panicked.  

It will be interesting to see what happens on Monday and during the rest of next week.  We may see some government-inspired buying, or even patriotic Olympic-related buying, or more measures from the authorities aimed at propping up the markets, but if none of those, I think the very bad mood could be extended.  As I’ve said before in this blog, I think expectations about the transformational consequences of the Olympics are unrealistically high, and I think there is bound to be some disappointment. 

In that context I have previously mentioned on this blog the parallels with the 1873 crisis that began in Vienna. Here is how I describe it in my book The Volatility Machine (Oxford University Press, 2001):

By the beginning of 1873 there was a general sense that the Viennese market was overvalued and unsustainable, but investors were looking forward to the World Exhibition to be opened in Vienna on May 1. They were irrationally hoping that the Exhibition would change the underlying situation and somehow justify the high asset prices. During April of that year, in response to a period of weak and declining stock prices, the local banking authorities became concerned about the position of banks and made a series of attempts to support the market. As a precaution, however, nervous banks were contracting credit and attempting to raise liquidity by calling in loans. When the Exhibition opened on May 1 and, not surprisingly, nothing really changed, investors lost heart and began selling. 

The selling pressure in the market built steadily. On May 5 and 6, the market began falling and on May 8 it suddenly crashed. With the crash a full-blown panic began in Vienna that was almost immediately felt throughout the country as banks and investors rushed to dump assets. 

 I am not implying, of course, that events in China are going to resemble those of Austria in 1873, but 1873’s World Exhibition in Vienna drew some of the same fevered expectations as the 2008 Beijing Olympics have, and it is worth noting the impact of excessively high non-economic-related expectations on the markets. So much hope has been invested in the success of what is, after all, just a sporting event, that it will be hard for any result, no matter how positive for China, to live up to expectations. After the Olympics little will have changed.

 

Still, even during the Olympics work must go on.  We should soon be getting a new set of economic numbers for the month of July. I hear that year-on-year CPI is expected to decline from 7.1% in June to around 6.5% or even lower in July, well below its April high of 8.5%. Partly this reflects a high base effect, partly price controls, and partly continued food price declines from the very high levels of February and March. What will be most closely watched is the non-food component of CPI.

 

In contrast year-on-year PPI, which hit a high of 8.8% in June (from 8.2% in May), is expected to stay high. I think this may be the worst combination of numbers.  Declining CPI will convince many policy-makers, particularly those in the pro-growth camp, that inflation is no longer a problem and excessive monetary growth nothing to worry about. High and rising PPI, however, indicates that inflation has already spread out of the food sector and will increase inflationary pressures by the end of the year.

Comments

[rlirph:]

Michael you are right. They just announced July PPI up 10.0%. This would mean that there will be high CPI's in 4-6 months. How would this impact the economy? - and the China's stock market?

2008 Aug 11 02:16 AM

[M. Pettis:]

The stock market took another beating today -- down 5%. Obviously no one is happy with the PPI number, although its effect will depend on what commodity prices do in the next few months. At any rate it doesn't cause me to change my guess that inflation will rise again by the end of the year.

2008 Aug 11 05:41 AM

[Hangz:]

I don't think such patriotic Olympic-related buying thing exists in China. We buy stock only because we think we may possibly sell at a higher price with a profit. With regard to government inspired buying, I also suspect if it is real. Yes, I've heard and read many rumors about it, but I don't believe. It's market economy (even not 100%). Investors are not idiots. How many times have those rumors turned out to be jokes?

The stock market went down today. My stock value plummeted heavily for the past two weeks. But as a long term investor, I just don't worry too much even the world economy is on the verge of recession. I expect the economy to recover in mid or end of 2009.

2008 Aug 11 05:54 AM

[Pipo:]

Shanghai stock market fell sharply tonight, -5%. Buy be a very good long term buying opportunity.

Nice Chinese stock market commentary @ investinchinastocks.bl...

2008 Aug 11 06:41 AM

[James Lewis:]

We are getting closer to a low. But because the market is effectively a closed market. There really is not enough liquidity, this can be seen by studying the volume. In volume terms we have not even had a extreme high volume selling day since this bear market begun. It takes very little selling volume to cause drastic price moves on the downside.

To me the Chinese Market is fairly priced as we stand (not cheap/not expensive), but I feel we are going to move quite a bit lower because of the maturity of the market/participants/fi... industry as a whole and the liquidity problem. I also get the distinct feeling that not only have we got insiders dumping stock because of lock up expirations (Chinese Government + officials included as well as foreign investors, inside directors etc),but we also have a lot of companies raising funding by selling stock on the open market due to there not being a developed bond market.

In terms of the Chinese Government stepping in and saving the day.
Lets all be very clear that they and their associated links have been among the biggest sellers in the pyramid stock scheme we have seen unfold over the last 3 years. I think they will probably support the market by introducing a number of stimultitive policies shortly but will only start physical buying if we approach 2245 (shanghai market) which is the June 2001 peak that we broke out from in Dec 2006.

I also think that the ongoing disregard to obligations arising from contractual agreements between foreign banks/investors and Chinese Banks has left a very sour taste in the foreign banks mouths. Infact I would go as far to say that they no longer feel they can trust (and by definition control risk) when dealing with financial transactions with Chinese Counter-Parties. As well as this a number of foreign banks were blocked by the Chinese Government from selling stock in Chinese companies. The reason being the poor performance of certain investments made by the Chinese Sovereign Fund. In particular Citi Group wanted to sell stock in a Chinese Bank to raise funds due to its ongoing solvency issues. This does not bode well to encourage more foreign Investment by the QFII instituitions in the domestic market.

I think the combination of the above bodes quite badly for the market in the short term. And makes the chances of getting close to 2245 very possible. If we overshoot to 2245, it presents us all some great opportunities.

2008 Aug 11 09:40 AM