China has a Stock Market: How Good Is It
When you think of Chinese stocks, the most familiar names are Alibaba, Tencent, Baidu, and even Nio. Besides being Chinese companies, what do all four of these companies have in common? They are all listed on US stock markets: NYSE, NASDAQ, and OTC Markets specifically (Yahoo Finance). These stocks are top performers in the MSCI Emerging Markets index and are popular investments in the western world. Part of the reason behind this popularity could be attributed to their specific presence in the US markets, but if Chinese stocks like that are already growing so quickly, why aren’t American investors pouring more money into the mainland? US investors do have some allocation through MSCI index funds that have holdings belonging to the SSE (Shanghai Stock Market), but investing in companies directly through the Chinese stock markets is nearly unheard of. So where do their qualms lie exactly? Some consider China’s mainland exchange a casino rife with scandals, and some others see it as a diamond mine that just needs some experience to search through. This article explores these claims and aims to determine whether or not Western apprehension is truly justified.
To begin, let’s just say that r/WallStreetBets would have a tough time in the East (in the context of GME). For the longest time, foreigners and even Chinese nationals have considered the Chinese stock market an absolute lottery. As you can see from the graph above, the Chinese stock market has seen massive swings in volatility and long periods of stagnations. In fact, China’s market is one of the only markets that have shown an actual decline over the last ten years. Compared to its -6.93% over the last 10 years, the S&P 500, Nikkei 225, and Stoxx Europe 600 have delivered returns of 189.73%, 124.31%, and 63.79% respectively over the same period of time. That stock market performance, although already worrying enough, is all the more concerning when compared to China’s GDP growth over the same period:
As we can see from this graph, the Chinese economy has nearly tripled its size since 2010, a growth rate of 200%, which completely pales the -6.93% returns of its stock market. This is even more surprising when you consider how most stock markets vastly outperform their respective country’s economic growth. In the US, for example, the S&P averages around 7–8% growth each year while the United States GDP only grows 2–3% on average. We can argue about the significance of the arbitrage between the US numbers later, but it is clear that China’s economy isn’t a product of its companies and their successes. While companies have grown in size with improved revenue and profits, it seems that the market has not reacted in the way we would expect.
The Chinese stock market and the Chinese economy are growing at vastly different rates, so are all Chinese stocks stagnant pieces of wasted potential? Well, while the SSE has had mixed performance over time, the top ten stocks on the exchange tell a different story. Compared to the -6.93% performance over the last ten years, the large stocks Kweichow Moutai, Industrial and Commercial Bank of China, Agricultural Bank of China, China Life, Ping An Insurance, China Merchants Bank, PetroChina, Bank of China, Haitian Flavoring and Food, Hengrui Medicine delivered wildly varying performances of about 1300%, -15%, -33%, -43%, 138%, 200%, -74%, -33%, 825%, 1248% (Yahoo Finance). These stock performances bounce all over the board with some exploding into growths of 1000% as others losing more than half their value over the same period of time. From the numbers, five of the investments made winners and the other five led to massive losses. Those are fifty-fifty odds, which slightly beat those of a gambling house, but might as well be one. These ten largest stocks have all delivered mixed performances, and they represent some of the top performers of the Shanghai Stock Exchange. Many of the other stocks have fared even worse, especially when considering the average return of these ten stocks is 350% in comparison to the -6.93% of the market overall. These stocks would have major weight for the index, so the other stocks must have performed very badly for these returns to be possible.
While the results of the stocks show casino-like returns, the power the house has over the market dwarfs that of any regular casino. The Chinese Communist Party holds a tight grip over the market as investor Lin Yunan received a warning when he sold and then quickly bought back around $325,000 worth of stock during the time of a major meeting of Chinese political leaders. Why did the Chinese government suppress this activity? Lin Yunan almost received a lifetime ban because the Chinese government wanted to display stability in a time of political tension. This shows that the Chinese government has no qualms in directly controlling the activities of the market in extenuating circumstances. Ever since 2015 in fact, the Chinese markets have shown abnormal calmness due to direct influences by the government on trade activity, especially that of stock sales. Funnily enough, this maintenance of stability is supposedly meant to “help” retail investors, which we know was definitely the intention. Besides my sarcasm that the CCP (Chinese Communist Party) preserves economic stability for political reasons, does this stability actually assist the retail investor?
In theory, low market volatility and risk makes for the perfect environment for investors, but it plays the opposite role for traders. Traders thrive on volatility and large price swings, so a stable market is not ideal. Wall Street Bets would hate investing in Chinese markets, but what about your Warren Buffett value investors? Returns of -7% over ten years does not create any form of reassurance for those looking to invest in companies for a long period of time. Not only that, but the stocks themselves can seemingly go either way randomly. Casino-like odds make investing significantly riskier, and why would you invest in Chinese stocks when nearly every other alternative historically beats it. While the mainland stocks haven’t performed well, there are plenty of Chinese companies listed on American exchanges that have delivered unbelievable numbers. For example, the conglomerate Alibaba has more than doubled over the last six years. These investments seemingly hold the growth capabilities of American stocks, but they benefit from the good grace of the Communist party (until they pull a Jack Ma). Diamonds in the rough exist on the SSE, and even Warren Buffett found a prize in the electric vehicle maker BYD, but with each diamond comes a mountain of coal in this case.
After crazy volatility and market failure led to a crash in 2015, the Chinese government has done all it can to ensure stability and steady returns since. While this steadiness is an attractive factor for most investors, they also care for large returns. As historical data shows, the Chinese markets have not delivered the stock returns desired by most investors. However, with all of the recent Chinese equity market catalysts, the potential for gains does exist. These prize companies partake in the success of China’s economic growth, and they also have the additional assistance of the CCP’s approval to give them an even greater edge. In summary, the Chinese market does not ensure successful investments in the same way other governments do, and it has started to rely on the oversight of a not-so-merciful government to create artificial stability. However, great investments still exist, and there are factors that can definitely indicate whether or not their success will likely occur. Investing in Chinese real estate might bring more success than the equity markets in all honesty, as recent market gains have shown, but there is plenty of potential in the equity markets that can easily be capitalized on for those brave enough to venture there.
Final Note: Foreign investors don’t really have access to Chinese markets so…
