On Aug. 11, China shocked global markets by devaluing its currency, making it cheaper for other countries to purchase Chinese goods. To many, the move looked like a tacit admission that the Chinese economy needed an extra boost.
A week later, the U.S. stock market correction began in earnest; the Dow Jones Industrial Average shed 1,000 points in five days, losing more than 5% in the process.
If the yuan devaluation was a subtle hint that things weren’t so rosy in the Middle Kingdom, the decision on Aug. 25 by the People’s Bank of China to cut interest rates and lower its reserve ratio should read as a full-blown scream of desperation.
After all, both cutting interest rates and letting banks lend out more capital are both easy-money policies … policies that should put further pressure on the yuan.
Point being: If the impetus behind Wall Street’s tumultuous plunge — the first 10% correction in four years — was truly fear over the health of the Chinese economy, we’ve got a whole lot lower to go.
Should We Even Worry About China?
It’s somewhat worrisome to begin with that the folks on Wall Street look to Shanghai for trading cues; the American and Chinese economies aren’t analogues, after all. If anything, they’re closer to being opposites: The U.S., a consumer, China, a producer.
Companies like Apple (AAPL) whose growth narrative revolves around China are the exception, not the rule: Exports of U.S. goods to China clocked in at $123.7 billion in 2014, accounting for a measly 0.7% of our $17.4 trillion GDP.
The takeaway is simple: U.S. investors merely should not care this much about China’s economic problems.
However, given that we do in fact seem to care about China’s economic well-being, there’s absolutely no reason our stock market shouldn’t continue to plunge. After all, if we’ve already mourned a straightforward devaluation of the yuan, why would we let an indirect devaluation go by unnoticed?
A weakening currency is a byproduct of China’s sluggish growth. And since mid-August, market-watchers have turned their gaze away from the renminbi and toward other economic data from the Orient.
On Sept. 1, the Dow plunged more than 400 points and the Nasdaq and S&P 500 were both down more than 2% after an index measuring the health of China’s manufacturing sector fell from 50 in July to 49.7 in August, indicating a contraction.
That move followed an interesting day for the Shanghai Composite, which plunged hard in early trading but rallied to end with just 1.3% losses.
Which brings me to the next issue Wall Street seems to be getting all jittery about:
Market Manipulation
Given that we care about China, its manufacturing data, and the weakening of the yuan, it’s no surprise we also irrationally care about the integrity (and direction) of China’s stock market.
It is a shame that we can’t trust the Chinese government to give us accurate economic growth numbers, but that’s not exactly a new phenomenon. The fact that the stock market also reeks of corruption isn’t a surprise.
It does reek of corruption and manipulation, to be sure. China’s not exactly secretive about the measures it takes to tinker with its markets, and the number of interventionist moves taken by the government in 2015 alone is too long to list here.
But we’ll list some of them:
- Regulators banned new margin trading for three months in January in an effort to slow the stock market rally.
- Later, when markets began plunging, regulators made margin trading easier.
- China has cut interest rates and lowered its reserve ratios multiple times.
- The central bank has stepped in to literally buy stocks and boost prices.
- The country arrested or detained nearly 200 people, essentially for not showering the market with praise.
- China banned owners of stakes of 5% or more from selling shares for a six-month period. Violators were threatened with severe punishment.
These methods are clearly extreme, but more importantly, they won’t work.
China is by no means a free market, but its economy is free enough that market forces will still overpower any government-imposed interventionist measures designed at making markets move higher — at the perfect pace — in perpetuity.
It’s sort of like bringing a fan with you to the Sahara and expecting it to solve the sweltering heat. You’ll feel a slight, artificial breeze, but the desert is still gonna have its way with you.
At the end of the day, U.S. investors should keep their focus on the U.S., where growth is strong:
Second-quarter GDP growth was just revised higher, to 3.7% from 2.3%. The number of unemployed has fallen by 1.4 million in the last 12 months, as the unemployment rate tumbled from 6.2% to 5.3%. Consumer confidence rebounded sharply in August, and single-family home sales were up 25.8% year-over-year in July.
Bottom Line
If Wall Street continues to look to Asia for direction, stocks will be going south for some time. China’s interventionist policies are bound to backfire or have no effect whatsoever. You cannot close Pandora’s box, and China has to live with it.
That said, long-term U.S. investors should recognize this turmoil for what it is: Far from a domestic crisis, this correction is an opportunity to snap-up quality American companies at firesale prices.
As of this writing, John Divine was long shares of AAPL stock. You can follow him on Twitter at @divinebizkid or email him at editor@investorplace.com.
