This year has been both a momentous one and a time to forget for investors in China’s A-shares. It was momentous because shares listed in Shanghai and Shenzhen were included for the first time into an international benchmark index, effectively obliging some foreign investors to buy them. And it was a time to forget because the CSI 300 A-share index has fallen 23.9 per cent this year.
This year has been both a momentous one and a time to forget for investors in China’s A-shares. It was momentous because shares listed in Shanghai and Shenzhen were included for the first time into an international benchmark index, effectively obliging some foreign investors to buy them. And it was a time to forget because the CSI 300 A-share index has fallen 23.9 per cent this year.
Thus, the obvious questions are: will the A-share pain recede and will the undertow of issues that have conspired to drag the market lower start to dissipate in 2019? The answer, according to a selection of analysts, is that if Beijing does not launch an economic stimulus package, things could get a whole lot worse.
Capturing the sense of gloom was a tweet this week from the usually upbeat Shaun Rein, Shanghai-based managing director of the China Market Research Group, a consultancy. “China’s economy is far worse than people realise,” he wrote. “Consumer confidence is plummeting. This is the first time I have become outright bearish on China’s economy.”
A similar readout came from Chen Long, the Beijing-based China economist at Gavekal Dragonomics. “Beijing’s easing policies have still not gotten traction,” he wrote. “There will certainly be more bad news on the economy through early 2019. In this kind of environment, equities will struggle and bond yields can fall further.”
Miranda Carr, China macro strategist at securities company Haitong, also had a sobering take. “Over the past year, China’s economy has looked like it is veering towards what we outlined as its ‘busted flush’ scenario,” she said. “There needs to be a fairly drastic action to steer growth back towards the longed-for ‘stability’.”
The “drastic action” that investors are pinning their hopes on is an effective stimulus by Beijing. Mr Chen, among several other analysts, says it is already clear that stimulus measures are planned but adds that crucial questions remain over the speed and scale of the steps that may be taken.
There is no consensus, however, on what stimulus tools Beijing may employ, partly because each option seems to pose risks of undesirable side effects. Some analysts say a cut in benchmark interest rates would stimulate corporate activity, but would also risk inflating already high property prices. Others say a big increase in bond issuance by local governments could help fund a surge in infrastructure investment but would risk worsening a debt trap that has ensnared many provinces and cities. A corporate tax cut could spur investment, but would deepen Beijing’s budget deficit.
There seems little doubt, though, that stimulus is required. November’s economic data showed a clearly easing trend. Industrial output rose only 5.4 per cent year on year, its slowest pace since 2008. Retail sales increased 8.1 per cent year on year, the slowest pace since 2003. But the most striking weakness was in the growth of total credit extended during the month, which Mr Chen estimated fell to 9.9 per cent, slipping below 10 per cent for the first time in the past 15 years.
This credit squeeze also lies at the heart of what is ailing China’s domestic stock markets. In the years of plentiful liquidity from 2014 to the start of 2017, a practice known as “equity pledged financing (EPF)” — under which key shareholders or managers of companies borrow using their shares as collateral — took off.
By the end of October this year, the contract value of pledged shares was Rmb6.3tn ($926bn) and as many as 3,540 listed companies had pledged shares under EPF, with 22.5 per cent of them having pledged more than 30 per cent of their shares, according to figures quoted in the Bank for International Settlement’s (BIS) latest quarterly review. As share prices declined this year, creditors have demanded the liquidation of shares to repay debts, driving stock prices further down.
The BIS analysis shows a sharp increase in the number of EPF loans facing liquidation pressure, a factor that appears likely to act as a drag on the market for several months to come, analysts said.
Such market dynamics form the backdrop to the inclusion of China’s A-shares into international investment indices. The big move that took place this year was the addition by MSCI, the index provider, of a first tranche of A-shares into the MSCI Emerging Markets index, the equity benchmark for emerging market investors around the world.
