After central banks flooded the world with money in the wake of the coronavirus crisis, retail investors rushed into the financial markets, sending stocks sharply higher, despite weak economic fundamentals.
If that sounds familiar, think again. It describes not the U.S., but China.
What’s more, the market mania that gripped the world’s second-largest economy in the past few weeks may not be as disconnected from the real economy as skeptical Western observers may believe. Perhaps even more surprisingly, it suggests some positive changes have come to the often opaque Chinese system — changes that may even work to the benefit of both countries.
On Monday, China’s CSI 300
index surged nearly 6%, bringing it to a 5-year high, and boosting equity markets around the world in its wake. In the year to date, the index is up 16%, outpacing most U.S. benchmarks, except the tech-heavy Nasdaq Composite
“I don’t think that retail investors alone could drive the markets if it weren’t for the fundamentally good setup right now,” said Jan van Eck, CEO of asset manager VanEck.
“What I mean by ‘the fundamentals’ is central bank policy, fiscal policy, and corporate growth, generally speaking,” van Eck told MarketWatch. “Between the recovering growth, reasonable valuations of the stock market, and then maybe a little bit of government support because of what’s been happening in Hong Kong, I think it can continue. This could be just the beginning of something. We’re far from what I would consider to be frothy levels.”
While there’s been a lot of cynicism among Western observers about how rapidly China might be recovering, Bill Adams, senior economist for PNC Financial Services Group, points out that the country has been in a better position through the pandemic than many other countries have.
Although China has been making an effort to transition its economy to a services orientation, it’s still more manufacturing-dependent than the U.S. is, Adams noted. The pandemic didn’t deal as big a blow to the production side of the economy, enabling China to bounce back a little more quickly. And within the services sector, China’s economy is more digital than most Western economies.
“In normal times, it is often a disadvantage for China to have a legacy of state intervention in the economy,” Adams told MarketWatch, “but when there’s a crisis China has tools at the ready to prevent firms from going under, and to a lesser extent to support households. There’s also no political resistance to intervention.” Finally, the country had a “much more aggressive public health response,” Adams said. The Chinese government is willing and able to track and trace citizens infected with COVID-19.
“The speed with which the economy went downhill and then recovered has been trending up rapidly. In broad strokes it fits the model of recovery from a natural disaster,” Adams said.
Even with that as a backdrop, the sudden surge in Chinese stock markets, on the back of what seemed like signals from the government, was disconcerting.
A China Securities Journal editorial on Monday said the foundations for a “healthy bull market” had strengthened, and a social media post from Shanghai Securities News said “Hahahahaha! The characteristics of a new bull market are becoming obvious.”
Many observers were reminded of the pain of the last state-sanctioned Chinese stock market bubble, in 2015, which ended with stocks down nearly 50% from their highs.
“So far, the overall level of cheerleading is less pervasive than what we saw in 2015,” said Nicholas Borst, China research director at San Francisco, Calif.-based Seafarer Capital Partners. “Still, it’s not a best practice ever for official or even quasi-official sources to be talking the market up.”
Chinese officials are clearly aware of the “positive wealth effect” a rising stock market can have on a jittery economy, Borst said in an interview. Still, like Van Eck, he believes “that only works if it’s driven by fundamentals.”
For Borst, this week’s episode suggests the Chinese government may be taking to heart lessons learned from the 2015 market crash, a positive for markets and the economy. Perhaps more importantly, he thinks Chinese officials also learned their lesson from firing too big a policy response during the downturn in the 2008 global financial crisis.
“There’s a real desire to avoid a repeat of that,” Borst said. “I think they’re going to continue to pursue something more targeted and focused.”
To be sure, the Chinese spending spree in the aftermath of the 2008 financial crisis, mostly focused on infrastructure spending, launching a worldwide commodities boom that also helped boost other emerging market economies. Now, it’s probably no longer safe to depend on China to be the world’s “locomotive,” Borst thinks.
Even if China is no longer pushing the world forward, one of the biggest questions for markets is to what extent global economies are intertwined. If China finds its footing, but the U.S. and much of the rest of the world haven’t yet caught up, how robust can China’s recovery remain?
In a May interview with MarketWatch, Jan van Eck likened the U.S.-China relationship to two people sitting in a life raft with knives. “We can bring out the knives, but I think both of us, no matter how much we’ve sharpened the knife and want to stab the other person, will just end up puncturing the life raft, and then we’re going to be in the sea with the sharks,” he said at that time.
It’s possible both countries find it hard to put down the knives, or at least to stop flexing their muscles. As soon as the stock market and economic freefall in the U.S. steadied after March’s plunge, President Donald Trump went on the offensive against China once again. And China has drawn worldwide condemnation for imposing a tough new security law on Hong Kong.
The analysts MarketWatch spoke with for this article preferred not to speculate on U.S.-China tensions. Van Eck called the issue of interdependence “the open question, but the only open question.”
For world financial markets, whether the two parties dance alone or together, it’s all good news, he said. “You want both major economies moving forward,” van Eck told Marketwatch. “I think it’s definitely accentuated the — I hate to say it but I have to say it — the V-shaped recovery story.”
The coming week will bring a raft of Chinese economic data, including imports, exports, and trade balance figures.
Meanwhile, in the U.S., the second-quarter earnings reporting season will kick off, with JPMorgan Chase & Co.
releasing its numbers on Tuesday. The U.S. government will report on a series of June data points: consumer price inflation Tuesday, retail sales figures Thursday, and new residential construction on Friday.