Monkey business

In August 2005, CHINA ECONOMIC REVIEW decided to invest RMB10,000 in A-shares. And so the Red Dragon Fund was born…

So is it a year for bulls or bears? Based on the recent trials and tribulations in China’s stock markets, investors can be forgiven for being confused. The Red Dragon Fund’s answer is neither – 2008 will be a year for monkeys. Unpredictable and at times just plain irritating.

When we last caught up with the Shanghai Composite Index (SCI) on January 21, it was sliding towards a single-day loss of 5.1%. It was the first time in 2008 that the market had closed below 5,000 points and barely a week after it hit its post-Christmas high of nearly 5,500.

Within 24 hours the situation had worsened. The SCI, driven by fears of a US recession, fell 7.2% to close at 4,559.75. One week and one mini-recovery later, it was just a few points above 4,300.

However, on the cusp of the Chinese New Year holiday, the gods smiled once again and the market ended February 4 up 8.1% at 4,672.11. It has zigzagged within 200 points of this every since.

In need of a compass

In such volatile times, where will the SCI go next? Experts have warned that it will be much harder to pick winning stocks this year, and right now those words of caution seem like an understatement.

Institutional investors still talk bullish, but look closely at their activities – particularly in mutual funds, and you see some subtle changes in strategy. They are quietly offloading the once-favored blue chips and buying second-tier companies with sound financial backgrounds.

Why are they doing this? It’s all to do with China’s non-tradable share reform program. Over the course of 2008, a huge number of non-tradable shares held in blue-chip firms are due to be unlocked.

For example, on February 3, 1 billion shares in PetroChina – with a market value of around US$3.5 billion – were released. This increased the number of tradable shares by 33%. Two days later, Industrial Bank’s tradable share volume shot up by 253% as 1.77 billion shares were unlocked (market value: US$11.2 billion). Coming up for release on March 1 are 1.963 billion shares in Ping An Insurance (market value: of US$21 billion; with 244% growth in tradable share volume).

In all, we are going to see nearly US$420 billion in shares unlocked – although as soon as you increase the supply, down come prices, and this is what scares the institutional investors.

The macro picture

Beyond this, there is the always-looming issue of government-led economic tightening.

New loans came to a monthly record of US$112 billion in January; broad money supply growth was 18.94%, a 19-month high; exports saw higher-than-expected expansion of 27.6%; and inflation was 7.1%, a level not seen in 11 years. Don’t expect Beijing to be meek in implementing its controls, no matter what the implications are for the stock market.

However, at the same time, the securities regulator is taking steps to infuse investors with new confidence. Nine fund management firms have received permission to start wealth management operations and offer a range of services previously restricted to commercial banks.

With some officials pushing one way and others pushing another – and market sentiment jumping around like a hormonal teenager – is it any wonder conditions are volatile? The Red Dragon Fund has already paid the price for this in recent weeks and we expect to have our tails tweaked several more times in the unofficial year of the monkey.