Big declines in China’s stock market in recent months – capped by an 8.5 percent plunge on Monday – have worried some investors. Stocks sold off in Europe and the United States following Monday’s China decline (although the same markets rallied Tuesday, making up for Monday’s losses and more).
As Yogi Berra said, it’s hard to make predictions, especially about the future. We cannot tell precisely what further declines in Chinese stock prices would do to other stocks markets and the world’s economy.
But it is worthwhile putting China’s stock market and its potential global effects in perspective:
Rather than signaling bad things ahead, the Chinese market is just now catching up with a decline in China’s economy, which began more than a year ago.
Domestic Chinese stocks are mainly owned by individual Chinese investors, not by international investors or institutions. The fallout from the big decline has been limited to those domestic investors.
Despite losing almost 30 percent of its value in recent weeks, the Chinese stock market is still up almost 70 percent for the last 12 months. The recent decline seems to be aligning Chinese stock valuations with current economic conditions.
The Chinese stock market has always been extremely volatile. Between mid-2012 and this year the Shanghai Composite index gained almost 164 percent before the current decline began, beating stocks in Europe and the U.S.
Meanwhile, the wealth effect of stock losses on Chinese citizens will be limited, because the vast majority of their money remains tied up in banks or real estate.
There is some concern that China’s economic slowdown will continue to push worldwide commodity prices lower, which will also hurt other emerging markets and the U.S. energy industry. However, there is also hope that cheaper energy will spur more domestic U.S. consumer spending, and that it will further delay the Federal Reserve Board’s timetable to begin raising short-term interest rates.
Richard Schroeder, CFP®, July 28, 2015