China Warns Against Irrational Exuberance

Yesterday, we pointed out that in US dollar terms, Chinese stocks are a real standout among the world’s equity markets, having nearly doubled in less than a year. The catalyst? Liquidity, driven by a number of factors including, as UBS notes, expectations of further policy easing, QE-lite, bank bridge loans, and of course, excessive leverage. We also warned that this, like all liquidity-driven surges, will not end well: 

The keyword in all of the above is "liquidity" which means none of the surge is driven by real, fundamental drivers. Which also means feel free to get on the ride, but remember to sell before the inevitable outcome of every single liquidity-driven rally: the crash.

Today we learn that in fact, China’s securities regulator wholeheartedly agrees with our assessment and like us, has been warning that the greater fool theory might not be the best investment strategy to follow for quite some time. Here’s more from Bloomberg

The Shanghai Composite Index rose for an eighth day on Friday, climbing 1 percent to 3,617.32, the highest close since May 2008 and the longest stretch of gains since Oct. 14. The gauge rallied 7.3 percent this week, as transaction volumes soared, margin trading surged to all-time highs and new account openings rebounded to the highest level since December.


“Investors should be cautious about market risks,” an unidentified spokesman for the China Securities Regulatory Commission said in a statement today on its microblog. “We shouldn’t be thinking if we don’t buy now, we will miss it.”


A previous warning from the CSRC was ignored. The Shanghai Composite jumped 2.8 percent to surpass 3,000 on Dec. 8, the first trading day after the securities body on Dec. 5 cautioned investors about growing market risks.


The valuations of some listed companies are “relatively high,” the CSRC spokesman said in Friday’s statement. “There are about 700 companies in the Shanghai and Shenzhen stock exchanges with a price-earnings ratio of above 100,” the spokesman said.

We definitely agree that P/E ratios above 100 qualify as “relatively high” and once again wish to highlight the following chart as a shining example of something which just might not be sustainable: