China Doesn't Look That Bad Compared to Other Market Meltdowns

Volatility in Shanghai shares is lower than in other major market selloffs

Ye Xie Belinda Cao

 

Losing $5 trillion in China’s equity-market rout in just two months is bad. But measured by the intensity of the price swings, the selloff still fails to stand out among past market meltdowns.
China has the world’s most volatile stocks right now after Greece, yet the fluctuations are 30 percent lower than the average of six financial market crashes, including the ones in 1929 in the U.S., Japan in the early 1990s and Thailand in 1997. The 43 percent decline so far in the Shanghai Composite Index looks modest when compared with a 78 percent peak-to-bottom retreat during the bursting of the dot-com bubble in 2000 and an 84 percent slump in the Russian market following the 1998 default.

While the declines have destroyed wealth equivalent to the combined economic output of Germany and Italy and forced unprecedented government intervention, the fallout is unlikely to be as severe as other global economic debacles. Most of the previous stock frenzies were caused by banking crises and debt defaults, China’s stock slump is largely a price adjustment to a frothy valuation following a more than 150 percent surge.
“The big distinction is that there’s a market correction in China, but there’s no financial crisis,” said David Loevinger, a former China specialist at the U.S. Treasury who is now an analyst at fund manager TCW Group Inc. in Los Angeles.
The economic impact will be limited because the stock market, dominated by individual investors, plays only a marginal role for companies to raise funds, according to Loevinger. Equity accounted for about 3 percent of total financing this year, compared with 67 percent from bank lending, according to data from the People’s Bank of China.
The Shanghai Composite Index has lost 23 percent over the past five days, the steepest decline since 1996, deepening the two-month rout on concern that valuations are unjustified by the worsening economic outlook. The stock benchmark’s 60-day historical volatility, a measure of the price swings, has surged to an 18-year high of 58 percent, data compiled by Bloomberg show.

While the turmoil is still unfolding and the speed of the selloff has been swift, the magnitude is less than other major crises. Russia’s Micex Index tumbled over a 12-month period as volatility jumped to 154 percent in October 1998, two months after President Boris Yeltsin’s administration defaulted on $40 billion of ruble debt.
Historical price swings on the Standard & Poor’s 500 Index rose to 75 percent in December 2008 as the collapse of Lehman Brothers Holdings Inc. deepened the global financial crisis. The stock gauge lost 57 percent in less than two years through March 2009.
Clem Miller, an investment strategist at Wilmington Trust, said the Chinese market turmoil is similar to the burst of the dot-com bubble -- a financial market correction with limited economic damage.
“We do not believe there will be a significant negative impact on the Chinese economy,” he said.
The U.S. economy sank into a brief recession in 2001 following a slump in the Nasdaq Composite Index. The growth contraction only lasted eight months. By the end of the year, the economy had rebounded.

The Shanghai Composite’s history since trading began in 1990 has been marked by extreme swings. The gauge surged fivefold between the end of 2005 and its peak in October 2007, before tumbling 72 percent through November 2008. The measure doubled in less than a year from the 2008 low, then lost more than 40 percent by June 2013. Over the past month, the benchmark is still up 33 percent.
“Even though it was a big meltdown, it wasn’t necessarily a meltdown that would have wide-ranging effects globally,” said Brian Jacobsen, who helps oversee $250 billion as chief portfolio strategist at Wells Fargo Advantage Funds in Menomonee Falls, Wisconsin.