Echoing similar remarks made by Ray Dalio (and reported exclusively by ValueWalk) multi-asset research firm Source, neither China’s huge 150% stock market rally nor the recent almost 45% correction are a big deal. Moreover, and perhaps most importantly, the recent crash in Chinese stocks does not portend a sudden drop off in the Chinese economy or dramatically increase the odds of a hard landing.
Normal stock market cycle, not that big a deal
The Source report notes that the Chinese economy is clearly slowing down, but there is no reason to expect that stock market volatility (even extreme volatility as has been seen recently) would have more than a minor impact on the overall Chinese economy.
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Report authors Paul Jackson and András Vig explain their argument: “However, to conclude that a sell-off in Chinese stocks is synonymous with a weakening of the economy requires us to believe either that the stock market is a barometer of the economy or that the losses incurred will severely damage consumer spending via wealth effects.”
They then go on to debunk the idea that the stock market is an economic barometer (especially in a controlled economy like China’s) or that the recent notable stock market correction will have a more than transient impact on consumer spending.
Their conclusion is that both the huge China stock market rally and the recent severe correction are really perfectly normal, even predictable, events. “Hence, the 150% rally in the year to the June 12 peak should be seen in the context of similar gains in the past that have occurred when the market was “lagging” GDP. The subsequent 35% correction should be seen in the same way – a natural breather after such a strong advance (the market is now only 25% below that peak).”
Both investors and the government in China overreacting
Jackson and Vig argue that both investors and the Chinese government are overreacting to this normal equity market cycle. They point out that stocks markets are relatively new both for investors and government officials, and that in this case, the government has nurtured and developed stock markets as a social project, and thus they are highly averse to significant downside volatility.