Will Chinese Capital Boost Global Stocks?

Don wrote:

China plans to create a Wall Street equivalent financial center in Tianjin, as shown in this Forbes story.

The article says they intend to relax rules to allow individual Chinese to invest in the stock market, and that is no small thing. Personal Chinese wealth is booming. Automobile sales are increasing 25% a year, and the number of billionaires came close to tripling in the last year. Huge amounts of money are accumulating in the hands of individuals, who may soon gain access to stock market investing.

I think it could have a major impact on the overall investment game. If it opens the door for individual Chinese investment to world markets, it would seem that the number of investors and the amount of cash flowing into the stock market overall would climb dramatically over a relatively short period of time. The primary impact would be on the demand side of the equation: lots more buyers, and more money to buy with.

My perception (assuming this happens sooner rather than later) is that it would take a bull market that some think is close to peaked and kick it into a new dimension.

I’d be interested in your take on this one.

I’m bullish on the U.S. stock market and the world market, but this isn’t the reason.

Of course, it never hurts to have more investors and more money coming into the market. More demand drives prices higher. However, there’s no lack of demand now. The global stock market has been well capitalized for decades. The impact of Chinese money coming into it is probably not enough by itself to drive the whole market. Now, properly magnified in the media, the impression of that capital being a rule-changing event could change things, but the actual impact on volume probably wouldn’t be much to write home about.

The U.S. stock market has a market cap of $24 trillion. After that comes Tokyo ($4.5 tril), London ($3.9 tril), Shanghai ($2.4 tril), and Hong Kong ($2.3 tril). The top 15 exchanges have a combined market cap of $50 trillion. You can verify these figures in many places, including Wikipedia.

Even an injection of $1 trillion from China would represent less than 2% of the global market capitalization, enough for a short-term spike but probably not much beyond that. Besides, what rushes in rushes out, and very quickly the laws of all markets would dictate the outcome. It’s doubtful that millions of wealthy Chinese would stampede into global markets, anyway, but even if they did we don’t know what they would buy or how long they would hold.

Beyond that, most of what I’ve read shows that China’s wealthy are more eager to re-invest in businesses in China — their own — than they are to send capital off to the stock market. This excerpt from notes on China’s 2004 economic census is typical:

The Rupert Hoogewerf 2004 China Top 100 Rich List was released on October 13, 2004. In pole position was 35-year-old Huang Guangyu, general manager of Gome Electronics. Huang, with a reported personal fortune of 10.5 billion yuan, disputes his “richest man in China” title: “There are so many wealthy private business owners in China, I can’t be the richest.”

It is hard to approximate the number of Chinese moneybags.

That last part is key. The reason it’s hard to know is that so much of China’s wealth remains tied up in private ventures or is otherwise out of public view. Stock investments are not. Is China’s closely held wealth really champing at the bit to get into global stocks?

Another important point is that the number of wealthy in China is increasing dramatically, but the country still has an abundance of non-wealthy citizens. From the latest report from Rupert Hoogewerf: “With 1.3 billion people, the average income in [China’s] countryside in 2006 was still only about 3,600 yuan (US$480).” This fact is often lost on those who see the country’s massive population, notice that the number of wealthy citizens is growing, and then mentally multiply the wealth figures by all 1.3 billion people to create the image of a tidal wave of wealth coming from China. There’s a growing supply, but it’s not a tidal wave yet.

Moreover, China’s wealthy have been able to invest in their own Shanghai Stock Exchange for years. Recently, there has been a rush of capital into that market, as reported in the Aug. 22 issue of BusinessWeek:

There is simply too much money sluicing through the [Chinese] economy, helping push the stock market to new highs day after day and adding to inflationary pressure. On Aug. 20, the State Administration for Foreign Exchange unveiled a landmark decision to allow Chinese citizens to invest directly in Hong Kong stocks. The move is widely regarded as an attempt to siphon off some of the liquidity that has been driving equities on the Shanghai and Shenzhen exchanges steadily higher. By some estimates, as much as $100 billion in additional money could flow into Hong Kong-listed stocks by Chinese retail investors in the next 12 months.

China is supposedly going mad for stocks, yet the capitalization of the Shanghai Stock Exchange remains one-tenth the size of America’s. Throw open the doors to global exchanges and that supposedly torrential $100 billion capital flow becomes two-tenths of one percent of the global market cap. Do you think 0.2% of the global market capitalization is enough to make a difference? I don’t.

Also, wealthy people can get their money wherever they want it to go. You can be sure that wealthy Chinese who want to own foreign stocks already do. Yes, a local conduit making it easier to turn yuan into shares of any company on Earth would boost liquidity, but as you can see from the above analysis, it will not produce a needle-moving change in capital flows.

In the end, all the historical rules of stock markets will rule the day. It doesn’t matter if market capitalization rises to $500 trillion. There will still be booms and busts, sector shuffling, competing forecasts, and the everlasting battle of bulls and bears.

All things considered, I don’t believe China’s gradual entrance into the global stock market is an actionable event.

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