Investors thrash China shares, give up total year’s gains

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Investors in China thrashed stocks again Monday, extending a rout that has now erased the entire year's gains and sparked new concern about a global repeat of the 1997 Asian financial troubles.

Shares in the Shanghai Composite Index ended down 8.5 per cent, their biggest single-day plunge since 2007, after more than 800 stocks reached their daily decline limit of 10 per cent. Shanghai shares are now down 38 per cent since their mid-June peak.

The Chinese troubles echoed around the world, pulling down the Nikkei 4.1 per cent, while markets in Europe opened down about 3 per cent.

Spiralling markets, plunging currencies and broader worries about China's economic health have prompted comparisons to the Thailand-led contagion that rocked the global financial system nearly two decades ago.

"It's beginning to feel a lot like 1997 all over again – except this round, it could be different," warned Nicholas Teo, an analyst with CMC Markets. He pointed to the far greater weight China carries in the global economy today, compared to the one-time Asian "tigers" who led the 1997 crisis, raising fears about what he called bigger, faster and wilder turmoil.

For global investors, the devaluation of the yuan nearly two weeks ago came as a wakeup call to weaknesses that had already built up, particularly in a Chinese economy that is faltering after more than three decades of supercharged expansion.

The disappearance of U.S. quantitative easing has only magnified the problem.

"We are now faced with the real effects of a 'sick' global economy," Mr. Teo said. It's "akin to a sick patient showing real symptoms now that drugs are beginning to be weaned off."

For Chinese markets in particular, the selloff suggests investors believe the Chinese government – which saw only limited success earlier this summer when it used extraordinary measures to halt a market drop – cannot or will not step in this time.

Beijing said on Sunday it would allow its pension fund, with $547-billion (U.S.) in assets, to invest in markets. But it took no further steps after Chinese stocks fell late last week – a far more muted response than the dramatic measures taken in July, which included barring funds and corporate executives from selling shares.

"Once the expectation is that the government is not going to be there, the market will go wherever it's supposed to go," said Andy Xie, an independent economist and China bear. He said the Shanghai index could fall to as low as 2,000, from its current 3,200.

Mr. Xie compared the crash in Chinese markets to the subprime-mortgage crisis in the U.S., where massive leverage could only prop up gains for so long. By some estimates, Chinese markets were flooded with three times more borrowed money than cash investments in the past year.

But the market problems also include worry about the depth of Chinese commitment to the kinds of reform that could sustain future growth. Wang Fuzhong, an economics professor at Central University of Finance and Economic, pointed to a shuffle Monday that saw the chairmen of two Chinese state-owned telecommunications firms – China Unicom Hong Kong Ltd and China Telecom Corp. Ltd.– replace each other.

"That simply doesn't make any sense. What kind of reform is that?" asked Prof. Wang.

That sentiment has combined with current economic weakness – the slowest growth in a quarter century, plunging exports and diminishing industrial products prices – to erode faith in China's economic future.

Markets are falling "because there is no reason for them to rise," Prof. Wang said.

In a note to investors, analysts at JPMorgan Cazenove underlined the panic that has resulted.

"We are in the midst of a full-blown growth scare," they wrote, and "China is at the epicentre."

With reporting by Yu Mei