China-Powered Global Stock Market Mania Risks Creating New Bubble
Chinese equities are at the center of the latest market rally, but analysts warn that it could end in tears as fundamentals catch up.
What's driving the monster rally in the Shanghai Composite Index? | Image: AP Photo
- The Chinese stock market has rallied 14% in the past week, fueling hopes of an economic recovery.
- Other stock markets in Europe and the U.S. have rallied in response, yet analysts warn that the bubble may eventually burst.
- The overall economic picture remains fundamentally uncertain and fragile and may turn negative very soon.
A worldwide stock market surge fueled by China and improving economic indicators risks creating a bubble, analysts have warned.
The Chinese stock market has jumped 14% in the past week, helping to boost global markets. Improving jobs and sales data have also buoyed stock markets in the U.S. and Europe.
Unfortunately, analysts warn that things could turn ugly soon. The last time the Shanghai Composite climbed vertically, it lost around 45% of its value in a few months.
China’s Stock Mania Fuels FOMO Market Rally
The Shanghai Composite Index closed Monday at 3,332. This marked a 5.7% increase, as low interest rates and bullish investor sentiment fueled the rally.
It had risen 2% on Friday after data showed jobs in the Chinese service sector increased their fastest pace in more than a decade.
China’s broader CSI 300 Index has grown 14% in five days, the biggest gain since December 2014.
According to BOCOM International’s Hao Hong, the Chinese central bank is also responsible for the newfound bullishness:
The market continues to believe that the central bank will ease more, as seen by China’s recent credit and monetary expansion.
In turn, China’s bullishness is now feeding international bullishness.
In a note to investors, ThinkMarkets’ Fawad Razaqzada suggested that investors are again looking to China to drive the global economy:
Investors certainly look like they believe China, the world’s second biggest economy, will lead a global recovery judging by the stock market performance there.
Data from Europe and the United States are also playing a big role. Eurozone retail sales surged 17.8% in May, compared to an 11.7% decline in April. In the U.S., 4.8 million jobs were added to the economy in June.
These factors have ignited a big stock market rally worldwide. Germany’s DAX is up by 1.7% on Monday. The U.K.’s FTSE 100 is up by 1.8%. The S&P 500, Dow Jones, and Nasdaq are rose more than 1% in pre-market futures trading.
As Fawad Razaqzada also notes in his note to investors, European “stocks exposed to China such as carmakers and luxury goods were among the leaders.”
The Bubble Will Burst
Razaqzada is one of several analysts warning that the global stock market rally could end in tears:
While some of the optimism certainly makes sense, one could argue the markets may have gotten ahead of themselves given the current situation and many risks facing investors in the months ahead.
He notes that the second-quarter reporting season is about to start, and it could bring some terrible news. A waning of pent-up demand is also a negative factor.
Meanwhile, other analysts are pointing to history.
Chinese state media is currently encouraging people to invest responsibly. This may avoid a repeat of the extreme market volatility seen in 2014-15. A reining in of monetary expansion from the Chinese central bank may also help.
Even so, the underlying economic fundamentals don’t look great. As Westpac’s Robert Rennie told Reuters:
Markets will have to climb a wall of worry in July as economic activity likely softens from the V-shaped recovery seen over recent months. We must remember, too, that U.S. and China relations are deteriorating noticeably.
Sooner or later, a fuller picture of how the global economy is doing will emerge. It probably won’t be pretty, particularly if the second wave of Covid-19 arrives.
Economists have previously warned that recovery from the pandemic will take at least five years. If true, it’s hard to see a China-powered stock market rally lasting.
Disclaimer: The opinions expressed in this article do not necessarily reflect the views of CCN.com and should not be considered investment or trading advice from CCN.com.