Forget the election – China is the real threat to the FTSE 100
By
Associate Editor
David Stevenson May 07, 2010
Print this article
You're probably sick of hearing it. But it's "still too early to tell" who'll get the dubious honour of moving into No.10.
We'll have our say about what it'll mean for financial markets when all the ballots have been counted. But at the moment, it's looking like a hung parliament. Worse still, no matter what alliances the various parties decide to forge, odds are that Britain will have a weak government for the foreseeable future. We'll look at what that means later on today on the website.
Meanwhile stocks went wild on Wall Street yesterday – partly on fears about Greece (which we've covered widely, see here for more) – but also due to what looks like a computer-glitch-driven sell-off. More on that later too.
But however the election, or Greece's woes, or Wall Street's gremlins play out, another worry for investors is lurking. It's much further away, but could prove a bigger threat to UK shares than any of these.
It's China...
What's going on in China?
Major problems are building up in China. What's more, as with so much produced by that country, it looks like these are about to be exported – to Britain.
More on investing in China
• Why you should avoid Chinese banks
• Is China really a bubble?
• MoneyWeek Asia archive
So what's going on? Aren't we constantly reassured by emerging market experts that the Chinese will save the planet?
Well, China has certainly been one of the main baton carriers for global economic growth over the last year. Exports rose by almost 30% in the 12 months to April, while imports jumped 52% over the period. And if you think that's heavy duty, the year to March saw a staggering two-thirds leap in imports. Meanwhile, industrial output growth for the three months to April is forecast at 18.4%.
It's enough to make the next British Chancellor weep with envy. Just think of all those extra tax revenues.
The Chinese economy is overheating
But there's a big catch. China has been ramming its money pedal to the metal. Over the last year, the country's money supply – i.e. the amount of money circulating in the economy – has soared by 22%.
By anyone's standards, that's very rapid. And while it's got things more than up and running again after 2008's sharp second-half slowdown, the flipside is that parts of the economy are overheating.
Inflation in February hit a 16-month high of 2.7% – it doesn't sound like much, especially compared to Britain's inflation, but it's moving in the wrong direction, and fast. And some prices, particularly in property, are now rising far too rapidly for comfort. Edward Chancellor at GMO says that: "China today exhibits many of the characteristics of great speculative manias".
In the year to March, home values climbed by almost 12%, according to the National Bureau of Statistics. Not only was that up from February's 10.7% increase, it was the ninth straight month in which price rises have accelerated. It was also the fastest rate of increase since the government began collating data in 2005.
Indeed in some parts of the country, house prices have inflated straight into bubble territory. In Haikou, the capital of the resort island of Hainan, they're up by some 65% within the last year.
The People's Bank of China, the central bank, has cottoned on that this could get right out of control – across the board. So now it's clamping down. Three times this year it has raised the 'minimum reserves' that commercial banks have to hold with it, which cuts back on the amounts of money these banks can lend.
It's also been selling more bonds, which mops up spare cash. And it's upped the rates on second home-loans, and demanded that house buyers put down bigger deposits. Benchmark interest rate hikes are soon likely to be in the pipeline too. Meanwhile, starting from this month, residents of Beijing have been banned from buying more than one new house, a measure that's likely to be copied in other cities.
Special FREE report from MoneyWeek magazine: When will house prices bottom out - and how will you know?
- Why UK property prices are going to fall 50%
- When it will be time to get back in and buy up half price property
We don't yet know whether this will be enough to cool the economy. But in the meantime, it's really spooking the property market. Home sales plunged by nearly 40% last week. And house prices could now slump by as much as 30%, says China Jianyin Investment Securities, as the central bank steps up its anti-bubble measures.
And the stock market is taking a big hit too. Fears that economic growth will slow sharply have sent Chinese share prices down more than 20% from last August's peak to an eight-month low. In short, China is now suffering its own full-blown bear market.
Why share prices in the UK are set to take a hit
But why does this matter to share prices in the UK?
Here's why - have a look at the chart below.
Source: Bloomberg
The red line is the FTSE 100 index and the blue line is the Shanghai SE Composite. But note that I've 'advanced' the latter by four months.
In other words, where China's market goes, we're now following about four months later.
Why's this? Because a fair chunk of the FTSE 100 is commodity related. UK-quoted miners have been churning out vast amounts of copper, iron and other metals for export to China. So all those mining stocks that have powered the index all the way up now look very vulnerable to a Chinese slowdown.
The chart reinforces our view that despite its recent pullback, the UK market overall is set for further falls. So unless stocks are clearly cheap, in defensive sectors or are solid high-yielders, we're still wary.
Mind you, recent events in China are no great surprise to our MoneyWeek Asia specialist Cris Sholto Heaton, who just last month warned his readers to avoid Chinese banks. Sure, China's long-term growth story is still good. But there'll be plenty of bumps on the way, and now's one of the times you have to discriminate, rather than just blindly buy into whatever China tracker is in fashion. That's where Cris comes in – as well as his free weekly email, he'll shortly be launching a new newsletter, picking the hottest stocks that Asia can offer. Look out for more on this next week and how you can be among the first to get in, here in Money Morning.
Our recommended article for today
Britain's FTSE 250 index looks expensive when compared to the FTSE100. But that opens up an opportunity to profit using pairs trading. Bengt Saelensminde explains how.
Published in
Stock markets
| More
articles
by
David Stevenson
Related articles
-
By John Stepek, May 21, 2012
-
By James McKeigue, May 19, 2012
-
By Dominic Frisby, May 18, 2012
-
By John Stepek, May 17, 2012
FREE - MoneyWeek's daily investment email
Our free daily email, Money Morning, is an informative and enjoyable analysis of what's going on in the markets. Written by our Editor, John Stepek, and guest contributors.
Sign up FREE to Money Morning here.