What the Chinese Stock Market Crisis Means to You

AAA

It wasn't that long ago that China was the "sick man" of Asia.  The world was industrializing -- yet China was an inward-looking, slumbering giant.

That notion seems quaint today. China is is the planet's unrivaled growth engine. It's massive economy saw double digit GDP growth as recently as 2010.

Not all is well for investors in Beijing, these days. The first ominous sign arrived in January. China reported its slowest quarterly growth rate since 2009. That sluggish performance created pressure on government officials. They responded by easing monetary policy and boosting infrastructure spending.  The government also reduced interest rates twice.

All of that was a mere prelude to the real show, however. Deep declines in the Chinese stock market sent a shiver down the spines of investors across the globe. The Chinese government had encouraged millions of new investors to enter the market. Now, with stocks plunging, these new investors began to panic. 

Officials responded with dramatic intervention. They suspended trading and changed regulations, seemingly at whim. Yet this heavy-handed action has had negligible effect. The Chinese stock market has lost four trillion in value since June.

Which raises one vital question: What does this mean for you?

How will the Chinese market respond?

When looking at the Chinese stock market, it's important to place events in historical context.  The recent massive declines look terrible, no question. Yet they come on the heels of a massive bubble.

The Chinese government recently eased restrictions on foreign investment. More foreign capital has entered the country. A massive number of new small investors have also entered the stock market.  The result of this gushing river of capital? The Shanghai Index doubled in value from late 2014 to early 2015. 

Such volatility is not unheard of in the Chinese market, which saw serious swings as recently as 2006 and 2009.

More importantly: Much like Las Vegas, what happens in China very often stays in China. Events there are often not reflected in the broader global market. China's radical stock market surge of late 2014 and early 2015 was not paralleled here. The Dow Jones Average was up by a relatively modest five-percent during that span.

China's market surge was driven largely by Chinese government policy. Its ongoing gyrations can be characterized as a local event -- the natural result of ongoing capital market development.

It's also worth noting that individual investors dominate the Chinese stock market. They own 80-percent of all stocks, roughly. That stands in comparison to the U.S., where institutional investors move the needle.

So where's the danger? That lies largely with the average investor. If the Chinese government's efforts to rein in panic are unsuccessful, China's problems could soon begin to spill over. On Aug. 18, U.S. stocks hit six year lows after the Chinese market nose dived by six-percent.  Wall Street is concerned foreign capital may flee China as economic growth stalls. This would create earnings problems for the multitude of domestic firms dependent on Chinese revenue.

Priority Action: What Should I do about China?

The relationship between the U.S. market and the Chinese market is the paramount issue for domestic investors. This should raise confidence. Historical data shows us there is little correlation between their performance. So fears about a Chinese "contagion" are overblown. Yet overblown doesn't mean nonexistent. There is a chance a Chinese implosion could have a seriously negative impact on U.S. investors.

Here are some things to consider in the wake of the Chinese crisis.

  • China's stock troubles have caused declines in oil, gold and copper prices. Copper prices recently hit a six-year low. Mining stocks, in particular, have also been seriously affected. Investors with strong positions in mining may want to consider weakening that position. Have you thought about buying gold? If so, you probably should put those plans on hold until we see more long-term clarity. If the Chinese market crisis get even worse, we could see a full meltdown in commodities.
  • If China/U.S. trade slows down, companies that depend on this relationship could be seriously affected. Review your portfolio to determine your exposure. If you're heavily invested in firms that rely on the Chinese market, consider lessening your risk by reducing your holdings.
  • Companies with considerable exposure to China are "canaries in the coal mine." If a company such as Ford posts poor quarterly numbers, be on alert. Alcoa, one of the world's largest raw materials companies, has already taken a serious hit to its stock price. Investors should be wary of companies with deep, interconnected ties to China. Multinational firms in general are more exposed.
  • The smart investor is cautious, yet also opportunistic. Be on the lookout for bargains. When the Chinese market recovers -- and history says that it will do so in relatively short order -- stocks and commodities will rebound. Get ahead of the curve and scout for bargains -- rock solid companies with the fundamentals to recover from turbulence. 

It's unlikely that the Chinese crisis deepens into a worldwide financial cataclysm. Yet the smart investor should still take measures to protect his wealth from all credible threats. 

Related Articles

Should You Invest in Startups? Can You Pass this Simple Financial Scorecard? Not Building Wealth Fast Enough? Read This to Find Out Why. Life Hacks for the Modern Wealth Builder How to Become Wealthier in One Year
Your browser is out-of-date!

Update your browser to view this website correctly. Update my browser now

×