Stocks are once again on a sizzling uptrend in China, just two months after the late February sell-off that drove the Shanghai Composite Index (SCI) below 3,000. The subsequent buying is somewhat a surprise given the strong price appreciation of the SCI over the past year. The index touched yet another record historical high of 3,851.35 on April 30, 2007, up an astounding 166% from its 52-week low of 1,446.99. This gain is more than the 44% total gain in the DOW over the past four years.
The gains in China are vastly superior to those in North American markets over the past few years, and it is easily understandable why I remain enthusiastic on Chinese stocks. The reality is you need to have some capital working for you in China. The key is patience and a gut made of steel! If you had bailed out during the February sell-off, you would have made a mistake and forgone the subsequent 600-point — or 20%-plus — rally, which is greater than what you would have made in any major U.S. index in 2006.
Yet with the rally, you need to be careful. Anytime an index rises as much as the SCI, you should be fully aware of the potential selling and take some profits.
Chinese companies are reporting record profits, which are helping to drive buying. Stocks listed on the SCI and Shenzhen Stock Exchanges were up about 62% in 2006. According to the South China Morning Post, total profits on the two Chinese exchanges were a combined $51 billion, up from $32 billion in 2005. For 2007, the earnings growth is expected to continue, and this could drive the Chinese markets higher.
The risk in investing in China is the instability of capital markets. The fact is, some estimates suggest uninformed investors with very little knowledge of financial markets hold 70% of Chinese stocks. This scenario is dangerous, as a mass exodus to the exits by these unsophisticated sellers could drive stocks down quickly.
China will continue to be an excellent area for growth investors, but you just need to be careful and be diversified in your portfolio.