A succession of asset bubbles has formed in China, caused by a torrent of speculative money sloshing from stocks to bonds to commodities.
The biggest apparent bubble is in housing, but prices have surged for niche assets, too, such as calligraphy, antiques and art. In May, futures prices for soybean meal, used as pig feed, jumped 40%. The trading volume of 600 million tons was nine times higher than China’s annual consumption. The pipe-making material PVC is up 40% so far this year on the Dalian Commodity Exchange.
The world’s second-largest economy is slowing. Easy credit and successive fiscal stimuli, designed to keep China aloft, mean it is awash in money that is chasing an increasingly small number of investment opportunities. China’s money supply has quadrupled since 2007, and the new cash is largely trapped inside the country by government capital controls.
“There are very few places left to invest in the real economy, so the money goes into the so-called virtual economy,” said Yang Delong, chief economist at First Seafront Fund Management Co., which manages $6 billion and is based in the manufacturing hub of Shenzhen. First Seafront has sharply cut its stockholdings in the past year and shifted toward bonds and commodities.
The zooming prices and frenetic trading are alarming to economists and Chinese leaders, who worry the volatility could mean China’s credit expansion has gone too far and is producing hazardous economic side effects.
“It’s impossible to know when you are in a bubble, but the succession of mini-bubbles is a pretty good sign historically that you are in a bubble,” said Michael Pettis, a finance professor at Peking University. “There would have to be an improbable number of economic coincidences coming together for all of these mini-bubbles not to be a sign of a bigger economic issue.”
In May, China’s official People’s Daily newspaper published a front-page interview with an unidentified “authoritative person” that was drafted by top economic advisers to President Xi Jinping. The interview cautioned that without proper management, excessive credit could provoke a systemic financial crisis, recession and the destruction of savings.
The risks have global significance. Iron-ore trading in China has sent prices around the world on a roller-coaster ride, and stock markets in Asia, Europe and the U.S. sank when Chinese stock markets crashed last year.
The risks are growing because speculative investments are owned by a vast cross-section of Chinese banks, companies and investment funds. Millions of consumers have sunk savings into new, high-return investment products. Some sellers of those products have already collapsed, sparking protests.
The powerful Politburo decision-making body said in July that asset bubbles are among the “risks and potential threats that deserve high attention,” according to state-run media. Analysts said it was the decision-making group’s first-ever reference to asset bubbles, likely triggered by property-price jumps in large Chinese cities.
Apartment prices in Shenzhen rose 47.5% last year, according to real-estate firm Knight Frank. That was the largest increase in the world and almost twice the 25% jump in the second-place city, Auckland, New Zealand.
To cool the housing market, some Chinese cities have increased down-payment requirements and limited some purchases. China’s leaders haven’t imposed new policies that damp the frenzy.
China’s total debt is expected to reach 260% of gross domestic product this year, up from 154% in 2008, according to analysts at Goldman Sachs Group Inc. That is one of the largest debt increases in modern history.
China’s debt-to-GDP ratio has widened from its long-term trendline about three times as much as the U.S. did before the 2008 financial crisis, according to the Bank for International Settlements, a consortium of central banks based in the Swiss city of Basel.
How China’s Asset Bubbles Formed
Easy credit and a steady stream of financial stimulus have left China awash in money and deep in debt. Investors have poured cash into one asset type after another, increasing prices and volatility.
The debt binge began with a crisis-related stimulus package. China’s public and corporate debt then grew threefold to about $22 trillion as Communist Party leaders used freer credit to support struggling state-owned firms and meet annual economic-growth targets.
The downside of so much cash washing from one asset type to the next burst into view with a stock-market crash in the summer of 2015 that wiped out $5 trillion, or 43%, of value in Chinese stocks at one point. The Shanghai market had doubled from June 2014 to June 2015 as investors borrowed 2 trillion yuan ($300 billion) to buy stocks.
To steady the stock market, authorities restricted short selling, and a “national team” of investors relied on by the Chinese government to support its stock market stepped in to purchase beaten-up shares.
Money then flowed into bonds. Many investors bought them by borrowing money against bonds they already owned, repeating the process over and over again. Such borrowing grew to 2.5 times the size of the $7 trillion bond market, according to bond-market analysts.
The surge slowed only when yields tightened enough that bonds looked less attractive than other asset types.
In this year’s first quarter, China’s total credit surged by another $690 billion, equivalent to about three times the economy of Ireland.
Then came a bout of commodity speculation, which pushed prices for some products out of sync with economic fundamentals. Iron-ore futures surged 50% from January to April even though Chinese ports were piled with iron ore. Prices slumped in May.
Steel futures also soared despite concerns about a glut of steelmaking capacity, according to economists. Jiangsu Shagang Co., a publicly traded steelmaker that posted a loss for 2015, swung back to profitability in the first half of this year partly because the steel-futures jump made Shagang’s rebar worth more.
Even Shagang is a speculator. To offset a difficult business climate, Shagang has diversified into “financial futures…venture/risk investment, real estate, etc.,” according to its website. Shagang declined to comment.
In late 2015, Shagang’s board authorized the company, based in China’s Jiangsu province, to buy $600 million of wealth-management products. Such products are short-term investment vehicles that buy everything from distressed debt to commodities to each other. The market has grown to about $4 trillion in assets.
Many wealth-management products are funded by borrowing from China’s cheap interbank lending market but could fail if China decides to raise interest rates, according to Logan Wright, a director at research firm Rhodium Group.
So far, the wealth-management products bought by Shagang have done well enough to boost its bottom line, financial statements show.
The volatility is a boon to some investors. Xiao Chaojiang, who runs Shenzhen Ruike Investment, a fund with $30 million in assets, said he has profited by jumping from stocks to steel rebar futures to iron ore to soybean meal to cotton. He is now considering other agricultural sectors.
“We closely follow relevant policy changes and monitor the movement of capital in the market,” said Mr. Xiao, who has all the fund’s investments in commodities, compared with 70% in stocks in mid-2015.
Economists said China still has the ability to keep its credit expansion going for some time. Chinese authorities also might avoid a crisis when the inevitable slowdown arrives. The country has a closed capital account and enormous reserves, and its debt is denominated in yuan and largely held domestically. That means there is far less foreign money to rush out of China.
Deflating the asset bubbles poses risks for China. Some unprofitable state businesses need easy money to roll over other debts that they can’t pay. At least for now, officials are trying to control each bubble as it arises.
“The adage is: There’s always a bubble in China,” said Eric Stein, a portfolio manager at asset manager Eaton Vance who helps invest $13 billion around the world, including in China.
—Yifan Xie, Rhiannon Hoyle and Lucy Craymer contributed to this article.
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