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Is China a leading indicator? Part 5 – China enters bear market
China is officially in a bear market as the Shanghai Composite index fell over 20% from the highs of 2009. From the chart above, we can see that the index has clearly broken below the trading range noted in my last post Is China a leading indicator? Part 4 on Mar 16.
China has been hit with a double whammy by the European debt crisis. Firstly, contrary to popular belief, the US is not the largest export market for China – Europe is. European countries are all cutting their spending either by choice or by force and this will weaken demand for Chinese imports. Secondly, China has pegged its currency to the US dollar which was a brilliant strategy when the US dollar was falling against the Euro as this made China goods still competitive in the US market and cheap in Europe. With the US dollar going up against the euro, this strategy now makes Chinese goods more expensive in Europe.
China is also under a lot of pressure to revalue their currency. The expectation is for the yuan to rise against the US dollar. If this is allowed to happen, this will put even further pressure on Chinese manufacturers who depend on export markets. Yuan gains would be “a disaster,” Song Zimin, an executive in the import and export department of apparel maker Shanghai Dragon Corp, said in an interview at China’s biggest trade fair in Guangzhou on May 3. “If the yuan rises 3 percent, where’s our profit? Many, many factories will close.” Profit margins are already razor thin as manufacturers have been forced to keep their price low to maintain sales revenue. Companies like Li & Fung Ltd, the biggest supplier to companies including Walmart Stores have seen their share price fall over 20% since March 2010.
In March 2010, China experienced its first month of trade deficit in 70 months. China managed to get back to a trade surplus in April 2010 but it is 87 percent less than what they had a year ago. The trade surplus shrank 34 percent in 2009 and may narrow “sharply” this year, the Ministry of Commerce said last month. In the first four months of 2010, there is already a 79 percent decline in the trade surplus from a year earlier
China imports grew faster than exports because of stimulus-driven domestic demand which has so far been good for countries like Australia who export to China. However, this will not continue as the stimulus winds down, unless China comes up with another stimulus package. Stimulus induced recoveries are temporary. There will be no lasting recovery for an export dependent economy like China unless their customers recover.
China led the recovery of global stock markets in 2009. The Shanghai Composite index started its rally in November 2008, about four months ahead of both US and Australian markets. Using China as our leading indicator, we should also expect to our stock market to follow China into a bear market in the months ahead.
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