If you think things were bad last week, consider yourself lucky. Chinese investors have been staring at declining markets all year.
The Shanghai Composite and the exchange in Hong Kong are both down more than 20% this year. Even worse is the Shenzhen, which is now down 34% year-to-date.
All up, investors lost about US$3 trillion on Chinese stocks. And it might get even worse from here.
According to the Australian Financial Review, there is more than US$600 billion in Chinese shares used as collateral for loans.
The worry is that if stocks fall further, it may trigger more selling. As borrowers default on their loans, banks will have to sell the collateral shares to recoup their investment.
It’s one reason why China’s financial crisis team — the Financial Stability and Development Committee — was at it again this month. The group has already met 10 times in the last two months, trying to decide what they should do about falling markets and escalating trade conflicts.
Kind of makes the All Ordinaries 2% loss this year look pretty good.
The obvious buys
Boy would I love to be a Chinese investor.
Their market doesn’t go up as much as ours. And sometimes it drops A WHOLE LOT. But this is the attraction. Every so often in China, most if not all stocks will go on sale.
Just last week our market dropped more than 5% and it seems like everything was in the red. Now picture more than a 30% decline…it’s very hard to imagine.
We haven’t seen such a decline since 2008, when the All Ordinaries dropped more than 40%.
If you can remember that far back, companies like REA Group Ltd [ASX:REA] and SEEK Ltd [ASX:SEK] dropped 40–60%.
Selling both stocks seemed reasonable at the time. Real estate values, in the US at least, were rapidly declining. Businesses were making redundancies left, right and centre.
It was a terrible environment for both companies. The only good news REA and SEK had to tell shareholders was that the environment was temporary.
The economy would get back on track, although many didn’t think so at the time. And real estate values would return to more normal levels.
Had you put your money in both companies, betting that things would get better, you could have enough by now for early retirement.
You could even find opportunities like Vita Group Ltd [ASX:VTG], which operate Telstra stores, trading at ridiculously low prices.
The company had very little debt heading into the stock market meltdown. In fact, their cash alone was enough to pay their debt twice over. Sure, consumer spending would decline, but only temporarily.
You could have bought Vita at a PE of 1.
That means, all the company had to do was generate the same earnings the next year ($5.4 million) and you would have recouped your entire investment.
Anything after that would have been free.
And in just seven years, had you held onto your PE 1 stock, you could have sold it for a 6,400% gain!
I guess what I’m trying to say is Chinese investors are lucky. We have to wait years, sometimes decades to see obvious bargains come around. They get them almost like clockwork.
So how can you profit from what’s happening in China now?
Ignore temporary effects
I believe we’ll eventually look back at the trade war between the US and China in the same way; a disturbance that created opportunities.
I think what’s happening with US interest rates is also creating temporary volatility.
Of course, there are multiple reasons why Chinese stocks — and stocks globally — are falling. But many of these losses are temporary.
The trade war could get worse. Chinese private debt could rise even more. Global earning could sour under higher interest rates.
But if you’re looking further than a few years into the future, these are not reasons to sell. All this volatility is creating opportunities to buy.
Even stocks listed outside of China are falling on trade fears, and fear in general.
Consider Alibaba Holdings Group Ltd [NYSE:BABA], a Chinese e-commerce giant listed outside of China.
The company controls a majority of China’s mobile payments market. They are the dominant e-commerce site in China. They have interests in ride hailing, the cloud and various other tech-related businesses.
Alibaba might even be the future of banking. They provide loans to consumers to buy even more goods on their site. Now investors are saying this company is now worth 30% less than it was a few months ago. It’s not an obvious buy like Vita in 2009, but surely it’s worth a look…
Editor, Money Morning