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Chinese Stocks Facing Correction; Not A Recession
Aspire, Investments | 10 July 2015
By: Vance Wong
Articles (74) Profile

Source: Bloomberg LP, CEIC and Wells Fargo Securities, LLC

The Shanghai Composite Index (SHCOMP) and Shenzhen Composite Index (SZCOMP) have slumped more than 30 percent over the past month. However, Wells Fargo think that the recent correction of Chinese stock markets is not as detrimental as it seems.

If a similar correction were to occur in the US, it would most probably result in a recession. But Wells Fargo pointed out that the Chinese economy is largely bank financed, very different from the US, which is largely equities financed.

Undoubtedly, the impact from the SHCOMP and SZCOMP slumps cannot be dismissed. Consumer and investment spending took a sizeable hit, indicating that this stock market rout will have a substantial, but not detrimental, impact on the global economic growth.

Consumer Spending

According to Wells Fargo’s research on the breakdown of financial assets owned by Chinese households, banks deposits constituted more than 50 percent while stocks only made up less than ten percent. Noting this, the recent slump of more than 30 percent would only translate to about three percent reduction in the portfolios of Chinese households.

Based on historical records of the Chinese Personal Consumption Expenditures index (PCE), the 70 percent slump in SHCOMP did have an impact PCE growth. Growth in consumer spending did fall by about five percent, but it is not detrimental by any means.

Thus, while the recent sudden slump was substantial over a short period of time, it would not have a particularly huge impact on consumer spending. Furthermore, the SHCOMP is still up eight percent year-to-date (YTD), while SZCOMP is up 30 percent since its close in December 2014.

Investment Spending

Source: International Monetary Fund, CEIC, Bloomberg LP and Wells Fargo Securities, LLC

Similarly for business investment spending (BFI) in China, a stock market slump would not affect it as much as many had expected. Based on the chart above, the Chinese economy is largely bank financed, while equities only make up roughly 12 percent.

Wells Fargo does not dismiss the fact that Chinese stocks had climbed substantially over the past two years, which would most probably push the equity markets higher. Nevertheless, the Chinese economy remains largely bank financed.

That being said, China’s central bank is having monetary easing policies to provide support for the economy at large. Wells Fargo firmly states that China’s BFI spending would not be greatly affected by the recent slump, as what many are assuming that led to the massive selling.

What It Means For The Global Economy

Much of the concerns about the recent correction revolves around the fact that China is the second largest economy in the world. Any minor movements in the Chinese stock markets would have a substantial impact on many other countries, especially when it has started liberalisations.

However, Wells Fargo believes that the slump will not result in a China recession. This is largely because of the fact that the major indices are still in the green zone YTD. Furthermore, consumer and business investment spendings are not heavily impacted.

While all these factors would not cause a sharp downturn in the Chinese economy, these still serve as catalysts for an accelerating growth slowdown. As such, impact on neighbouring countries in Asia-Pacific would be inevitable. Investors should try to stay away or at least be wary of Chinese stocks during this period of uncertainty.

With a Communications background, Vance has the passion to write with a purpose - to provide content supported with substantial evidence to vested readers.

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