I started my investment career when the technology bubble was in full swing.
ANDREW HERBERTS
I started my investment career when the technology bubble was in full swing.
I remember going into meetings with companies making eye-watering losses and then being seriously told that the way to value their stock was using such esoteric measures as "price per eyeball" or "click count". One way to significantly boost a share price was to somehow incorporate the word "Digital" into its name.
Previously sober individuals were couriering share applications to get an allocation to initial public offerings in companies whose names they barely knew and whose operations and prospects they most definitely did not know. Tech analysts became household names and taxi drivers in the UK and in the US proffered investment advice and knew the names of slews of tech companies.
We know how this ended. The extreme valuations and hype meant a correction was likely, and when it came, it was severe. So severe that in purely capital terms, the UK FTSE 100 Index has only just passed that prior peak hit on 30th December 1999.
I recalled all this because of a conversation that I had with a colleague who has recently returned from a trip to China. The Chinese market has enjoyed a huge run recently, particularly in the A share classes which mainland Chinese investors can buy. Both the Shenzen and Shanghai markets have more than doubled in a year and according to Bloomberg, the Shenzen composite trades on over 50 times its earnings.
My colleague went into a toy shop to buy something for the children and found the proprietor huddled over a computer, trading stocks. Not totally odd in Shanghai, but up in the rural Yellow Mountains he found a lady running a tea shop who had a set up more suited to the trading floor of an investment bank. Screens showed stock prices, graphs and technical analysis.
She had many stock recommendations for my colleague, but knew little more of the underlying company than its name and the pattern on her screen. This was repeated in almost every place he visited, individual investors, with little or no experience, investing in a market and in stocks whose fundamentals they did not understand but making money. Further adding to the picture is the rise of significant amounts of retail margin trading. That means that the investor borrows money from a dealer to invest in the market rather than putting up their own capital. It can be profitable, but it is risky. The Chinese regulator attempts to limit margin trading have caused sharp falls in the market (which quickly recovers).
What does this mean, then? Well first, Chinese domestic investors appear to be fuelling a speculative bubble in Chinese equities. History tells us that this is unsustainable, but it also tells us that these bubbles can persist. Greenspan was warning in 1996 of the effects of "irrational exuberance" but the market ran another four years before the bubble burst. So investors in China may not be burned in the near future, but at some point it looks very likely that they will be. For us as investors, it means that we need to be wary of investing indiscriminately, and to be looking at any exposure we have to the region. For most UK investors, China will form only a reasonably small proportion. But the bursting of the bubble will have consequences outside of China, depending on how widespread it is and the exposure of the Chinese consumers to the aftermath.
Andrew Herberts is head of private investment management, Thomas Miller Investment
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