So why haven’t Chinese markets started rallying?

Following our last note on China and India in late June, we thought we would make a few brief comments on market developments since then. We will focus on China, as China is key to Asian stock market performance. One thing hasn’t changed, unfortunately, and that is market direction: down.

In our last update, we expressed the hope that falling inflation would provide the catalyst for markets to bottom out and ultimately rally. Instead, MSCI China has fallen over 15% from 20 June to 9 September, whilst at the same time inflation has also fallen rapidly. Indeed since peaking at over 8% earlier this year, consumer price inflation declined to 6.3% in July and a huge fall to 4.9% in August. Producer prices are also expected to start falling soon. Falling inflation is being led by declines in food, energy and other commodity prices.

So why haven’t Chinese markets started rallying?

There are a new combination of worries that are keeping the bears busy, including falling global growth, falling Chinese property prices and a distinct lack of news regarding a Chinese government stimulus package. In addition, we are in the midst of an analyst downgrade cycle (late as ever). We won’t delve into the global growth debate here, but a slow-down in Europe is adding to the Chinese export sector’s already large headache that is the US.

It is the latter two points that are causing much angst currently. Property prices are undeniably falling, but the big difference between China and developed economies, that also have falling property markets, is affordability. There is no issue of affordability in China. It is more a fact that after two years of orthodox and un-orthodox government tightening measures aimed at the property markets, the animal spirits are somewhat exhausted. And, crucially, there has been much speculation of a government stimulus package, which has resulted in a buyers strike until the exact details of the package are known i.e. why buy today when you expect the government to help tomorrow? News of the package is expected mid-month. With healthy government fiscal surpluses, the Chinese authorities have plenty of ammunition on offer.

We are entering a crucial period for Chinese and Asian equities, and we remain optimistic that falling inflation will ultimately give the government room to start easing policy to a more growth orientated stance. It is for this reason that I will be in China next week to get the ‘view from the horse’s mouth’ directly. We will revert with our thoughts in more detail following this trip.