China Stock Market Crash: On the Verge of Economic Collapse

Stock Market CrashIf you thought China’s stock market crash was over, think again. On Monday, July 27th, the Shanghai Composite Index plunged a staggering 8.5%, representing the largest daily percentage loss of the index since February, 2007. Now some analysts are raising the question: could the country be on the verge of an economic collapse?

The Shenzhen Composite Index lost an equally huge 7.59% on Monday. The ChiNext Index, which tracks a NASDAQ-style board on the Shenzhen Stock Exchange, dropped 7.40%.

Nearly 1,800 stocks tanked the 10% daily limit posed by regulators. The biggest losers are blue chips, with companies in the financial services industry and natural resources being the hardest hit.

Also Read: Should You be Worried About China’s Stock Market Crash?

This Could Just be the Beginning of China’s Economic Collapse

Let’s not forget what happened in the past month: from June 12th to July 8th, the Shanghai Composite Index dropped 32.1%!

To save the stock market from crashing further, the Chinese government has adopted extraordinary measures; the central bank lowered its benchmark interest rate and the reserve requirement; the regulators relaxed rules on margin lending; and they also put a stop on IPOs. Moreover, 21 of the country’s largest brokerage firms announced that they would buy at least 120 billion yuan ($19.3 billion) worth of shares in an effort to stabilize the stock market. They also vowed not to sell any stocks as long as the Shanghai Composite Index stays below 4,500. After Monday’s tumble, the index stood at 3,726 points.

The crash was so bad that China Securities Regulatory Commission (CSRC) had to ban major shareholders, directors, and corporate executives from selling shares of their public listed companies for six months. Investors with more than five percent stake in any company cannot sell their shares in the secondary market. The question is, has all this worked?

At the beginning, it seemed that things were working. From July 8th to last Friday the 24th, the Shanghai Composite had climbed 16.1%. But then, on Monday, things went sour again.

So the short answer is no, because the stock market is still crashing, and the ephemeral stability we saw was just massive support from the government.

About Monday’s crash, analysts are saying that the government might be testing whether the stock market could remain stable on its own. Due to last month’s crash, the Chinese government announced that it would support blue chip stocks. On Monday, we saw that some of the biggest companies listed in China, such as Sinopec, tanked the 10% daily limit.

This shows that the stock market on its own is still in the crashing stage. The reason is actually quite simple: the fundamentals are just not solid.

The country’s manufacturing sector has been contracting for four months in a row. Demand has been weak—both domestic and foreign. Trade data showed that both imports and exports have plunged. Factory output, retail sales, and fixed asset investment all missed expectations.

China’s economy is in a transition stage. It used to be the manufacturer of the world, but as the world economy slows down, it has to find new sources of growth. The Chinese central bank has lowered its benchmark interest rates four times since last November, but the economy is yet to show signs of improvement. The future for the economy is challenging, to say the least.

Given its economy’s lackluster performance, you’d expect the performance of China’s stock market to be similar. But it wasn’t. Despite the gruesome tumbles in recent weeks, the Shanghai Composite Index is still 70.8% higher compared to a year ago. At its peak on June 12th, the index had climbed almost 150%!

Everyone was willing to ignore the fundamentals in China’s stock market during the bull market run. At the peak of last year’s rally, the price-to-earnings ratio for the ChiNext board was as high as 146.57!

What the recent tumble did was crush investors’ confidence in the Chinese stock market. People have begun to realize that the pricing of some companies simply did not make sense. A massive sell-off occurred. The government had to start buying stocks to prevent further crashes, but once the government stopped buying, the sell-off would continue.