Bubble

Anybody who has been reading the business sections of their favorite publication will undoubtedly know that the US economy has faltered and is in danger of falling into a recession. The reason is pretty basic; there has been a housing bubble which has led to an excess of liquidity in the economy. This excess liquidity has spurred consumption and investment which has overheated the economy. This impending recession is just a normal process where things return to where it should be. The stock market has reacted and I believe that things may turn painful for a year or two but it should be nothing that we cannot recover from.

The interesting part from my perspective is what will happen here in China. The Chinese investors have felt that their economy has been fairly insulated from the rest of the worlds’ ills. This has led to the unabated climb of their stock and property market. As these markets get hotter and hotter, less sophisticated investors (or should I say speculators) enter the market and raise the temperature further. This process has fed on itself for quite a few years now in China. It started in the property markets about 5 years ago and the stock markets 2 years ago. The prices of these assets have climbed to levels that cannot be justified by conventional measures. While bad news have come out of US banks and investment firms about the subprime losses, the Chinese stock markets have pretty much ignored it. Well, yesterday it has been reported that the Bank of China, the second largest bank in China and by some measures one of the largest in the world may have up to 2 billion in US subprime mortgage losses when they announce earnings. This could represent the first evidence that the Chinese economy is not so insulated from the world economy. I think this could be a big blow to the psychology of the market and lead to a re-evaluation by investors about just how safe their stock market really is. Just like the feeding frenzy that led to the bubble, the same mentality could lead to the panic that results in the crash of two very important markets in the Chinese economy.

The interesting factor in this scenario is the belief held by many investors in China that the Chinese government will somehow make sure that the stock and property markets will be performing well leading up to their coming out party that is this years Summer Olympics in Beijing. This kind of common belief could lead to the self fulfilling prophecy of a large withdrawal of investments out of these markets sometime around the Olympics. How this interplays with the possible global recession will be very interesting.

My interactions with the local Chinese tells me that many people are currently participating in this stock market bubble - mostly unsophisticated investors who think they know how to invest. It is basically the same kind of stories that I heard and saw during the days of the NASDAQ bubble back in the late 90s and early 00s. Its amazing to realize even with such differing cultures we are all the same. What this also tells me is that when this market crashes there will be lots of pain among the people and they really have nobody to blame but themselves.

Of course this is just speculation on my part, but having been through the NASDAQ bubble and the recent housing bubble in the US, I think it would be pretty safe to say that the similar outcome will take place here in China.