This article is part of Morningstar's "Perspectives" series, written by third-party contributors. Here Cazenove Capital's Janet Mui assesses the current investment risks in China.
Asian stock markets have been unsettled by concerns over the vulnerability of the Chinese banking system. While those concerns may be overblown, they are likely to have an impact on sentiment towards the Chinese stock markets and may also have implications for other emerging Asian markets.
The debt situation in itself is not disastrous. It is true that, in relation to overall indebtedness, corporate debt represents the highest proportion of the country’s overall debt to GDP figure, but local and central government debt is low. As the largest banks are state-owned, the state should be in a position to provide a buffer. Domestic savings are high and the country runs a current account surplus, both of which offer some protection for the banks.
That said, the People’s Bank of China has been less accommodative than markets have hoped, sending a clear signal that it wants to promote financial discipline and curb excessive lending. July’s data already pointed to a 45% slump in total social financing since the spike in interbank rate in early June. Although interbank rate has abated to normal levels after officials gave assurance on sustaining above-target growth, smaller and medium-sized banks will likely see more significant downside risks while the largest state-owned banks will weather the storm better. This is likely to have a wider impact, limiting smaller companies’ access to financing.
This makes certain sectors within China look unattractive, particularly financials and industrials. It is also making the Chinese stock market sensitive to adverse news on real estate, banking, inflation, or interest rates. This makes it difficult to see much upside for Chinese equities in the short-term.
Tighter monetary conditions within China are likely to have an impact on other emerging Asian markets and economies, in part because Chinese banks may now cut back on cross-border lending. International trade within Asia is also likely to be affected, as China is the biggest trading partner for many countries in the region. This will affect emerging Asian growth, which is already under pressure from the unexciting rate of expansion being exhibited by the US economy. It is also affecting the commodities sector and may hit the Australian Dollar.
On a more positive note, the financial problems in China are arguably less of a threat to Western economic growth. Certainly, a Chinese slowdown is detrimental to global market sentiment, but the UK, US and Eurozone (except Germany) are not heavily exposed to China in terms of exports. The financial stresses in China, even if they intensify, are unlikely to trigger anything like a Lehman scenario. If contagion does result, it is likely to be more local in nature.
While China will be associated with negative headlines for the rest of the year, events there are far from being of crisis proportions. In one sense, this is a learning process for the West, as we begin to develop a clearer understanding of the economic objectives for the new political regime.
Patience is a virtue: as the popular Chinese saying goes ‘you don’t help the shoots grow by pulling them upward’.
