Big bark, small bite

The stock market slump on February 27 wasn't constrained to the Shanghai Stock Exchange – or even China or East Asia. It was global.

The immediate speculation, fertilized by a healthy dose of China fear, was that the Shanghai market's biggest single-day drop in a decade had sparked a worldwide meltdown.

Flattering as the comment on the growing influence of China may be, it is not really true.

The country's impact was minimal but coincided with developments involving two much bigger economies, slipping confidence in the US and currency appreciation in Japan.

The drop in China was driven by internal factors, particularly given the restrictions on outside involvement in the A-share market.

Rumors relating to a new real estate tax and higher interest rates, official warnings of a market bubble and action on illegal fund flows were among the factors blamed. Morgan Stanley also noted that the State-owned Assets Supervion and Administration Commission sold almost 5% – the annual maximum – of its stakes in about 15 listed companies.

What is most interesting is that there was no single domino that sent the rest tumbling down, rather a whole bunch of dominoes falling in unison. For an actual cause, investors would have to go back to the massive and virtually unfounded gains of earlier in the year.

Considering the high valuations and sharp highs and lows, it's no surprise that Chinese investors are often accused of being speculative. One truth brought home by the meltdown is that China's bourses are driven by a force beyond the scope of even the sharpest economists: a potential for contagion. In markets awash with cash, this is a key factor.

More Chinese are putting portions of their considerable savings into the stock market and Beijing's attempts to control bank lending don't appear to be having much effect on share spending. The injection of all this money is sending valuations out of whack.

This last correction will provide more arguments to push the economy away from cash transactions, but the pattern of unwarranted growth and unexpected drops will continue.

After all, it wasn't three weeks before the Shanghai market was once again within reach of the peak it hit just before the slump.

The introduction of stock index futures should have a positive impact. But it will take time for them to settle – and it was the same weakness for speculation and lax regulation that saw them go very wrong last time round.

In the months ahead, serious questions will be asked of China's regulators and their ability to develop as fast as they have to.

The good news for the individual investor is that there is no reason to think that a trough won't be followed by a new peak. It is just a matter of patience.