Thursday, April 3, 2008

NYT: To See a Stock Market Bubble Bursting, Look at Shanghai

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I haven't talked about China in a long while from an investing point of view since its been a vortex of destroyed capital. But when I read this sort of article it reminds me of all the stories I read in 2001-2002. When I was reading the exploits going on in China the past 2 years, it reminded me of 1999-early 2000. Early in the blog life I was warning multiple times about the massive bubble in China - ironically there was no way for a US investor to really take "direct" advantage of it - we've been using Ultrashort Xinhau China 25 (FXP) but that shorts US listed Chinese large caps, not Shanghai

[Aug 28: China "A" Shares Bubble]

I think the China A shares are due for a fall, they are exhibiting bubble like behavior and have been so for a long time. Having lived through NASDAQ 99-01, it sounds very similar - with the same news stories you read back then - housewives daytrading, investments being pulled out of savings and into the market, "how easy it all is", investment gurus sprouting up on the internet in China, etc. The case for China (India) remains strong for the next 10+ years, but the next 12-24 months? Hmmm.... everyone says there will be no issues with China until at least the summer Olympics in 2008. When everyone says something, that makes me nervous. Consensus and group think... wasn't that what got the quant hedge funds in trouble?

[Sep 1: The Growing Bubble in the Shanghai Index]

I just found an interesting website, that probably says it all

BubbleXchange

I wonder if the formation of such websites signals a near term top, much like the infamous "magazine cover" indicator i.e. when you start seeing "How to Retire by Owning Real Estate" in 2006 or "It's Really Different This Time - How Dot Com Companies are Changing the World" in 2001 - on the cover of Time or Newsweek.

Again, this index (mainland A shares) trade in their own twilight zone as foreign investment is nearly impossible, and most mainland Chinese are only allowed to invest in this 1 index. 1 year ago the index stood at 1700, 1 MONTH ago it stood around 4000. Now it 5200.

1 year chart is here

Did I mentioned that a large portion of the "E" (earnings) in the P/E (of >50) are from investment gains and not operations?
Now bubbles can continue for much longer than we anticipate and the same arguements people are making now could of been made 2000 points ago. (and probably were) But these things never end well. It does not mean the Chinese economy is going to go south, as an economy and a market don't necessarily go hand in hand especially in such extremes. But at some point this will be very ugly for the actual market.

Things really went crazy in October [Oct 13: Shanghai the Mystical Land of Premium Valuations]; you know when PetroChina (PTR) as one of the largest companies in the planet by market capitalization gained 50% in 5 days? [Oct 17: PetroChina 12% Away from Being Largest Company in the World] and I wondered in early November if the domestic listing of PetroChina (PTR), which gave it a ridiculous valuation of $1 trillion, marked one of those tops we'd all look back as so obvious [Nov 1: PetroChina the 1 Trillion Dollar Company? Is *this* the Top?] It's been pretty much all downhill from there.

You remember Shanghai correct? The magical land where valuations of stocks are 150-225% higher than they are in either Hong Kong or the US for stocks that trade on all 3 exchanges. See this story for a graphical representation

Well in the weekly attempt to call the top in the Chinese market, I wonder if the Chinese valuing Petrochina at double Exxon as the world's first 1 trillion dollar company *is* a near term top? ;)

At that time I had been scurrying off to invest in India which was being ignored in the love affair for all things China - that worked out pretty well [Dec 11: China v India the Past 2 Months]. By Late January the writing was on the wall, China was heading in the same place all bubbles do. [Jan 28: Nikkei, NASDAQ, Homebuilders.... China Next?]. Now the destruction in China indexes has been ignored due to the global market selloff and focus on US financials, but it's there and the bubble pricked is hitting the investor class in China hard. But maybe now the water is a bit safer to get back in... if you still have your capital. I was simply bemused by the constant refrain I heard at the time "no problem, keep investing until the Olympics at any valuation- China won't allow its markets to fall"... ironically that last phrase applies more to socialistic US than it does communist China. ;)

I do find it amazing that regardless of nationality, race, creed, sex, border... human greed and fear is universal. And tulips keep regenerating themselves at an amazing rate - but the United States has been the king of tulips the past decade...[tulip mania] And we're setting the ground work, yet again, with our easy money policies and removal of risk penalty, for the next one. See ya in 2012-13 for the next doozy!
  • A year ago, investors like Guan Ling were ebullient. Chinese share prices had climbed over 500 percent in the span of two years, setting off a nationwide stock buying frenzy.
  • When experts periodically warned about the possibility of a bubble, prices would dip temporarily then soar even higher, breaking records and inciting another mad dash to snap up equities.
  • “The market was going wild,” says Mr. Guan, 49, who a few years ago closed his real estate company to invest in stocks full time. “Everybody was talking about how much they had earned, how much more they would invest, and which stocks had jumped 20 times, or even 30 times.”
  • That was last year. The Shanghai composite index has plunged 45 percent from its high, reached last October. The first quarter of this year, which ended Monday with a huge sell-off, was the worst ever for the market.
  • Suddenly, millions of small investors who were crowding into brokerage houses, spending the entire day there playing cards, trading stocks, eating noodles and cheering on the markets with other day traders and retirees, are feeling depressed and angry.
  • "These days my family quarrels a lot," says Zhang Liying, 55, a retired hotel waitress who with her husband invested all their savings in the stock market. “My husband asked me to sell; I wanted to hold for a while. Now my husband condemns me as so stupid that we lost our family’s savings.”
  • Si Dansu, 68, and a retired engineer, is even more distraught, but she blames the government. “I devoted my whole life to the country. I went to the countryside after graduation, and worked as an engineer in a Shanghai factory until retirement. I invested almost all my savings and retirement fund in the market 10 years ago. But now I’m totally penniless. All my stocks went down.”
  • Other parts of Asia are as bad, or worse. In India, stock prices have plunged 31 percent in Mumbai; they are off 31 percent in Japan and a whopping 53 percent in Vietnam, another booming economy. Angry investors have burned a securities regulator in effigy in Mumbai, and some are in tears in Ho Chi Minh City, Vietnam.
  • “Some of them have cried,” says Nguyen Quang Tri, 74, a retired cement company manager who was visiting a Ho Chi Minh City brokerage house this week. “I have my own equity, but most of the people here borrowed money from the bank.” (oh leverage... dear leverage... it brings down mighty hedge funds, mighty investment banks, and lowly individuals in Ho Chi Minh... give people enough noose and they are sure to hang themselves)
  • Few experts say the stock plunge is a major threat to growth in the real economy here. But there are worries that a prolonged downturn could reverberate through China’s financial markets — especially since a large number of corporations had aggressively shifted money, sometimes secretly, to play the market. [I discussed this scary situation where a lot of corporate China's "profitability" was due to stock speculation not running the business in November in 'How Much of China's Earnings are from Operations']
  • By some estimates, 15 to 20 percent of the profits reported last year by publicly listed companies in Shanghai that are not involved in banking or finance (which usually invest in stocks) came from stock trading gains. Companies with primary businesses like selling electricity, or even sports jackets, were moonlighting by trading stocks, hoping to bolster their earnings.
  • But the big companies were following the small investor. JPMorgan estimates that 150 million people in China were invested in the Chinese stock market as of the end of last year. That may still be a small slice of China’s 1.3 billion people, but it is a huge new constituency, and it has led to the birth of both a new source of potential popular discontent and a new lifestyle: the diehard investor.
  • Shopkeepers, real estate brokers, even maids and watermelon hawkers are said to have become day traders. (don't forget taxi drivers!)
  • Here in Shanghai, brokerage houses with giant electronic screens started to draw huge crowds, including many retirees who were content to spend the entire day transfixed by the sight of rising prices.
  • “I’m getting out of the game,” said Yuan Yuan, 23, a researcher at a fund company in Shenzhen who also invests on his own. “The game is over. Big institutions pulled out first, only leaving the small investors.” (hehehe, sounds so familiar - a complaint heard 'round the world!)
  • Now, in the brokerage house corridors — corridors of pain — one can hear complaints about all the market flaws: the government doesn’t regulate the stock market and it participates in it by allowing mostly big state-owned companies to go public. (wait wait, let me get this right - when everyone is making money hand over fist, ignoring all the risks on the way up, no one complains about lack of regulation ... but when things turn bad, then people complain .... hmmm.... sounds vaguely... familiar... where have I heard that before?) There are also complaints about insider trading, stock manipulation, and big investors with government connections, pumping and dumping stocks on small investors.
  • This was not the way it was supposed to end. Many investors had been betting that Beijing would not allow the stock market to crash before the Olympic Games come to Beijing in August. After the Games, the powerful rumor went, everyone would sell, leading to a steep market plunge. And if anything serious happened before the Olympics, the government would certainly do something to prop up the market. (I urge these Chinese to move to America, where the government does everything in it's power to prop up markets! I mean, whose the socialist/communist here again?)
I just find great irony in the "unprecedented steps" taken in the US to prop up asset prices... this is why I keep referring to the new socialist system. And folks, "they" are not done yet distributing losses on the taxpayers back and away from the elite. As house prices stubbornly refuse to "cooperate" with the US government (the market is bigger than the government, imagine that) - more and more steps will be taken, costing you...err your grandchildren... more money. We're more socialist than the Chinese. Enjoy!

Long Ultrashort Xinhau China 25 in fund; no personal position

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