Chinese stocks traded in Shanghai continued a wild ride, dipping as much as 17% last week, before recovering and ending the week 8% down. The Chinese government took a number of steps that helped calm Chinese investors, with reports of stock purchases by the government as well as moves to encourage bank lending.
This period of instability comes after the decision three weeks ago by the Chinese government to weaken the yuan currency, making it cheaper to buy Chinese goods for foreigners. While this move was intended to increase Chinese growth, it raised the possibility that China was slowing down more rapidly than publically announced.
As the worlds second largest economy and a key consumer of raw materials such as iron, copper and oil, it is reasonable investors are worried a slowdown in Chinese growth could have reverberations outside China.
What is important to keep in mind, though, is that no one piece of data about China foretells the future. This is particularly true because of the degree of government intervention in the Chinese economy. While bipartisan support is often needed in this country to make big economic changes, no such roadblock exists in China. Very large injections of government stimulus could be started quite quickly.
The Chinese stock market is also not necessarily a great sign of the Chinese economy. The main Chinese stock markets in Shanghai and Shenzhen remain closed to most foreign investors and are dominated by individual speculation. Estimates put 78% of all Chinese stock trading is done by individual investors. In comparison, in the United States, only about 15% of stock trades are made by individual investors, with the great bulk of trades made by professional investors.
While Chinas short-term growth is likely to remain in the headlines, the country is still undergoing very strong economic changes, with millions of households joining the middle class each year. McKinsey consulting predicts the Chinese middle class could reach 630 million people in the next seven years, up from 230 million in 2012. Accordingly, while direct investing in the Shanghai or Shenzhen exchanges remains questionable (our mutual fund managers tend to purchase Chinese companies on the less volatile Hong Kong exchange, which is open to all investors), a modest degree of exposure to higher quality Chinese companies and the growing Chinese economy makes sense for diversified stock portfolios.