China’s stock markets continued their dive this week, and the nation’s central bank has been powerless to stop it. But if you’re having a bit of déjà vu right now, you’re not alone.
While nothing in life is guaranteed, there are some things that are inevitable. For one, history always repeats itself. The only thing we can hope for in this regard is that we learn from our past and take cues from what happened when a similar situation arises.
China today like Japan in 1965
Barclays analyst Hajime Kitano noted some interesting similarities between Japan 50 years ago and China today. He also offered several lessons for China from that experience. But will China take note of these lessons?
Chinese regulators have been attempting to prop up Shanghai stock prices as shares of most companies continue plummeting. There are 21 firms involved in a stock fund with the goal of stemming the decline in the market. In all, these firms have invested over 120 billion yuan, which is about 15% of their net assets as of the end of last month, according to Bloomberg data.
China also froze all initial public offerings.
Will China's efforts work?
Kitano thinks the stock fund established by Chinese securities firms is a lot like the Japan Joint Securities Corporation, which was set up in January 1964. Twelve city banks, two long-term credit banks and four securities firms united to set up, creating a fond with a total of 2.5 billion yen. (All charts/ graphs in this article are courtesy Barclays.)
The purpose of the fund was to absorb the high levels of selling being done by investment trusts at the time. By absorbing all that selling, the fund aimed to artificially prop up market prices. The TOPIX index had plummeted in 35 weeks, falling 25.4% from its peak level in May 1963, falling from 122.96 to 91.76.
The situation in Japan is eerily similar to what's happening in Shanghai right now. China's stock market has now seen its largest three-week loss since 1992, falling 28.6% over three weeks on a weekly close basis, noted Kitano.
Where Japan went next
The Barclays analyst explained that after the war around 1957, the so-called Iwato economy in Japan was spurred by investment trusts that were gobbling up funds from retail investors. The amount of assets managed by these trusts rose sharply from 209.6 billion yen at the end of 1957 to 1.0268 trillion yen at the end of 1961.
According to Kitano, investment trusts held nearly 800 billion yen of Japan's total stock market capitalization at the end of 1964, which was 6.4296 trillion. Because of their large sizes, these trusts came to be known as "the whale in the pond."
Japanese stock market corrects itself
The analyst explained that the Japanese stock market hit a ceiling in 1961, and there was a selloff in Blue chip stocks Then Japan went into monetary tightening mode and hit a recession, and the market corrected itself from the middle of 1961 to 1962. In late 1961, the IPO market in Japan took off when the nation set up a second section market. The following year, the first section market had weakened because of the recession, but the second market was soaring thanks to the sudden influx of IPOs.
The bulls returned at the beginning of 1963, however, and regulators were expected to cut interest rates amid the Ikeda administration's aggressive monetary policies. Next regulators lifted the restrictions on foreign investors into the Japanese stock market, allowing them to repatriate their capital much more quickly rather than waiting two years as they previously had to.
Japanese investment trusts start to sell
Then a raft of worries hit the Japanese stock market. For example, the U.S. passed a new tax to "improve its international balance of payments," explained Kitano. The markets in Japan began to worry that it would be harder for capital to come out of the U.S., and this worry dragged the Japanese markets down.
Investment trusts kept selling, but then the Japan Joint Securities Corporation was set up in 1964 to buy free-float shares. The announcement of the plan did stabilize the market quickly, but the markets were disappointed in March of that year because the group did not buy enough to keep up with expectations. The result was a further slide in the Japanese market.
Then toward the end of the year, a number of major corporations in Japan declared bankruptcy, and investment trusts kept on selling.
Japan keeps trying to prop up stocks
With the failure of the Joint Securities Corporation came the Japan Securities Holding Association, which bought 132 billion yen worth of stocks in January and February of 1965. The BOJ cut the discount rate, which didn't affect the market, but companies stopped issuing new shares. Then it hit its recovery high, according to Kitano, a week after the association was set up.
However, the association also failed to prop up the market, and the BOJ ended up bailing out Yamaichi Securities through unsecured and unrestricted loans. The market kept plummeting, however, bottoming out approximately a year and a half after the formation of Japan Joint Securities.
China's stock market in a correction
The moral of Kitachi's story is that China has reacted the same way Japan did by setting up an organization for the purposes of buying stock to prop up the market. While early reactions to the news about the formation of the organization was positive, in the longer term, that organization failed to deliver on what it was meant to do.
The Barclays analyst suggests that Japan's experiences should be a lesson for China and apparently believes things could get much worse in China before they get better.