A worker installs rubber onto the windows of the doors along a production line at a truck factory of Anhui Jianghuai Automobile Co. Ltd (JAC Motors) in Hefei, Anhui province May 5, 2014. Activity in China's manufacturing sector contracted for a fourth consecutive month in April, a private survey showed on Monday, adding to questions about whether the world's second-largest economy is still losing momentum.JIANAN YU/Reuters
Worried about China? There are plenty of ways to bet against a financial calamity there, but they add up to an unsettling fact: A bearish view on China is a bearish view on just about everything shy of U.S. Treasury bonds.
The economist Gary Shilling, who has been quite pessimistic about the global economic recovery, outlines in a Bloomberg News column several approaches for investors who want to score gains from a downturn in China. The country, he argues, needs to confront a growing list of problems, from a slowing economy to rising militarism to corruption to a messy banking sector – all of which could trigger a major financial crisis.
One country's problems, though, offer opportunities to anyone who doesn't want to wait for the bad news to become front-page headlines. Mr. Shilling suggests that short-selling Chinese stocks – or betting that prices will fall – offers one approach. Sure, the benchmark Shanghai stock exchange composite index has already fallen 67 per cent from its peak in 2007 and valuations are low relative to the S&P 500. However, Mr. Shilling believes the index has no obvious floor: "If China has a financial crisis, the risk to Chinese equities is considerable," he said in his column. "Bank stocks may be especially vulnerable."
But the options for pessimistic investors don't stop there. You can sell commodities, given China's massive demand for base metals would certainly take a hit if a financial crisis arose. And of course, any commodity downturn wouldn't be good news for some of the more fragile commodity producers. Mr. Shilling helpfully singles out Argentina, Brazil, Indonesia, South Africa and Turkey.
And for that matter, why not bet against currencies traditionally tied to commodity markets? They include the Australian and Canadian dollars. Oh, and developed market equities will also suffer from a Chinese financial crisis, given that lacklustre global economic growth would be hit hard by a Chinese recession. So, add U.S., European and Japanese stock markets to the list.
What does that leave you with? Well, there are U.S. Treasury bonds and the U.S. dollar, the traditional havens during bad times. The yield on the U.S. 10-year bond has slipped below 2.5 per cent recently, after starting the year at 3 per cent – suggesting that it is already a popular investment.
"Perhaps all of this is fanciful," Mr. Shilling said. "China could successfully increase economic growth, transition smoothly to a domestic-driven economy, control its rising militarism, reduce corruption without major disruptions, cease manipulating the yuan, lower the risks in shadow banks without clumsy bailouts, slowly let the air out of the real-estate bubble and deregulate interest rates. Given the history of other countries with similar problems, I wouldn't bet on it."
Mr. Shilling is by no means alone with his concerns, of course. Bank of America highlighted China's property market, where sales volumes are expected to fall 5 per cent this year, as their most immediate concern: "China's property sector has strong linkages with the rest of the country's economy, particularly through the financial markets. Hence, a complete meltdown of the housing market would invariably impact the country's GDP growth and, hence, commodity demand."
In other words, betting against China is less about scoring big gains and more about finding a good place to hide.
David Berman