Chinese Government Attempts to Cool Down the Market
Wednesday, July 11th, 2007
By George Leong, B.Comm. for Profit Confidential
The chart of the benchmark Shanghai Composite Index (SCI) is currently showing some caution after the formation of a bearish double top in late May and mid-June. The index broke to a record intraday and historical high of 4,335.96 on May 29, followed by another surge in mid-June, but the index has failed to hold. I view this as a warning flag of potential troubles on the horizon, as the current near-term trend is negative. The index failed to hold at the psychologically key 4,000-point level.
Recent selling was triggered by efforts of the Chinese government to cool down the stock market and economy and prevent a runaway economy. There is also some profit taking and valuation concerns that have driven sellers to the exits.
The catalyst that triggered the selling in Chinese markets was the news that the country’s Ministry of Finance, in an effort to moderate the market action, would increase the stamp duty, trading stocks at 0.3% from the previous 0.1%. The aim of the duty would be to reduce active trading and speculation.
At this time, Chinese stocks listed in China remain extremely vulnerable to selling. Now, you should realize that if investors suddenly decide to cash out, it could set off a bout of selling and leave Chinese markets vulnerable. A major concern is the fact that we are seeing more unsophisticated Chinese investors rotate their capital from saving accounts into the stock markets, hoping to catch some easy gains, regardless of its dangers. Estimates suggest that unsophisticated investors hold about 70% of Chinese stocks. The surge in new trading accounts is a red flag of potential trouble ahead. The total number of stock trading accounts has surpassed 100 million in China as speculation continues to rise. This scenario is dangerous, as a mass exodus to the exits by unsophisticated sellers could drive stocks down quickly. When investors chase gains without any regard for valuation, it is risky.
The bottom line is that China will continue to be an excellent area for growth investors, but you just need to be careful at this time and be diversified in your portfolio.
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George is a Senior Editor at Lombardi Financial, and has been involved in analyzing the stock markets for two decades where he employs both fundamental and technical analysis. His overall market timing and trading knowledge is extensive in the areas of small-cap research and option trading. George is the editor of several of Lombardi’s popular financial newsletters, including The China Letter, Special Situations, and Obscene Profits, among others. His trading advice on stocks and options is also found on his daily trading site, Daily Profits. He has written technical and fundamental columns for numerous stock market news web sites, and he is the author of Quick Wealth Options Strategy and Mastering 7 Proven Options Strategies. Prior to starting with Lombardi Financial, George was employed as a financial analyst with Globe Information Services.
