The Worst Investments of 2010: China
12/23/2010 12:05 pm EST
A huge economy kept on growing, but investors got hosed. What went wrong?
This will go down in the books as a pretty good year for global investors, and a great one for those smart or lucky enough to ride some of the rip-roaring bull markets that seemed to spring up all around the globe, often in places that have never seen such excitement.
The MSCI-Barra All-Country World Index combining developed and emerging markets is up almost 10% year to date, but that doesn’t really do 2010’s investing landscape justice. Nordic countries, which had been averaging negative returns over the last decade, soared 23%, outpacing high-living Hong Kong (20%) and hard-working Germany (16%).
To Europe’s east, Russian stocks marched 18% higher, fueled by rising oil prices, while Turkey managed 21% without crude. To the south, Morocco and South Africa are up 20% and 16%, respectively, in local currency terms, and South Africa’s haul rises to 26% for those who do their sums in US dollars. Africa on the whole returned 24%..
Asia’s stars included India (up 16% year-to-date in dollar terms), South Korea (22%), the Philippines (25%), Indonesia (28%), Malaysia (30%) and Thailand (49%.) Latin America has likewise scored at will, with Peru matching Thailand. Chile and Colombia also returned 40% in currency and capital gains from their stock markets. (All figures courtesy of MSCI-Barra.)
And Now for the Losers
The planet would be sitting even prettier without two heavyweight party poopers. Thanks to a combination of shaky debt and German-mandated austerity, the stock markets of euro users other than Germany have sagged a combined 11% in dollar terms so far this year.
Far more surprisingly, the stock market of the fastest-growing big country in the world also threw snake eyes. The Shanghai Composite Index is down 12% on the year, and was off 27% at the lows this summer. Big swings are nothing new in a market dominated by small investors: Chinese stocks quintupled in 2006-07, only to lose 70% of their value during the ensuing year.
By those standards, the letdown after the 87% gain during the first seven months of 2009 has been positively benign. Still, what was it that made Chinese stocks (and European bonds) such poor buys this year? The common thread is that both markets were made to serve the political goals of their masters.
Let’s take a closer look at China.
This Was the Script
A rapidly industrializing nation growing at 10% a year was deemed capable of producing even bigger capital gains. Notably, China’s top broker, Citic, hazarded a guess at a 38% gain for the year, warranting that the “outlook for the A-share market until the middle of next year is quite optimistic as growth accelerates and company profits rebound.” Goldman Sachs was only marginally less bullish
This Is What Happened
The economy continued to boom, growing 10.5%. Corporate earnings swelled more than 50% year-over-year through September, by one measure. Yet the stock market sputtered, weighed down by the heavy supply of new shares from government-mandated public offerings. These helped to recapitalize state-owned banks and mop up excess liquidity in the second year of a Beijing-ordered lending spree. But that couldn’t have been much of a consolation to the investors who did not partake the fruits of all that growth. Chinese mutual funds lost $65 billion in the first half of the year.
Who Got Hurt
While millions of Chinese investors did not get rich quick, state workers may have got the worse longer-term deal, as their pension funds gobbled up the richly valued IPOs. If the loose lending standards now prevalent in China later come to grief, those pension funds with big new stakes in state-controlled banks will be on the hook. So Chinese workers will be backstopping a lending boom with their retirement benefits, in exchange for getting to keep their jobs. US investors in the iShares FTSE China Index Fund (NYSEArca: FXI) won’t do as badly, but still have to be wondering why they bothered. The ETF is up 2% this year. and down 10% since peaking on November 8.
How Far Is Down
China faces a rocky start to the new year, with investors bracing for higher interest rates as authorities try to control rising inflation. But Shanghai shares have for the moment stabilized above their 200-day moving average and trade way below their historical valuations at roughly 17 times estimated earnings. Writing in the Wall Street Journal this month, economist and author Burton Malkiel argued that Chinese stocks are “attractively priced” on a number of valuation metrics.
How Soon Is Up
Possibly not until the government defuses the inflationary threat, possibly by letting the currency appreciate faster. Investors will also be watching for additional measures to cool housing prices. But if the economy can outgrow these dangers, it won’t be long before the rising earnings are reflected in higher share prices.