(Bloomberg) -- The steepest two-day plunge in U.S. stocks since 2015 has caught everyone from hedge fund managers to mom-and-pop investors off guard.
Those trying to navigate the turbulence could do worse than look to China. The nation’s CSI 300 Index suffered a similarly rapid repricing of risks tied to the coronavirus outbreak almost exactly a month ago, plunging nearly 8% in the worst single-day wipeout for Chinese equity values on record.
While the Chinese market is in many ways unique, analysts have pointed to several aspects of the post-rout price action in Shanghai and Shenzhen that may have global relevance. The following charts illustrate some of the key takeaways.
Bulls might take heart from the fact that China’s first bout of selling was short-lived. Despite mounting evidence that efforts to contain the virus will cripple economic growth, the CSI 300 recouped all the losses from its initial plunge in two weeks. And despite Wednesday’s drop, an index of small-cap stocks is trading near its highest level since mid-2016.
The recovery has vindicated those who bought the dip, but not everyone thinks it will last. “China’s market is unlikely to come out of this unscathed in the end,” said Wei Hai, chief investment officer at Jungle Gene Associates in Shanghai. “Optimism will fade when the severity of the situation hits people in the face, and the reality of the impact on supply chain and corporate debt could trigger a domino effect.”
Fed watchers take note: The policy response from China’s central bank and securities regulator has been an important driver of sentiment in mainland markets. Stock indexes have rallied partly on hopes that Beijing’s monetary easing and fiscal support measures will help companies weather economic headwinds.
Expectations remain that authorities are ready to provide additional liquidity and more support as needed, including a cut to the benchmark deposit rate.
Everything China Is Doing to Support Its Markets During Outbreak
China has also taken measures that may not fly in the West. Regulators banned mutual funds and proprietary traders at brokerages from selling more stocks than they buy, while state funds stand ready to intervene if needed to lessen the impact of panic selling.
But volatility has stayed elevated, especially for China’s more speculative and liquidity-driven stocks -- historical swings for the tech-heavy ChiNext have surged to the highest since 2016. It serves as a reminder that a heavy-handed approach to managing market swings can backfire, like it did for China after the stock bubble burst in 2015.
Virus-themed divergences between stocks and sectors have been extreme and long lasting. Shares of companies linked to work-from-home or e-learning technologies have jumped, and makers of traditional Chinese medicine rallied on bets that a government push to use their products could help boost earnings. Wuhan Guide Infrared Co., a maker of thermal imaging systems headquartered in the center of the outbreak, has surged 134% for this year’s best performance among stocks in the MSCI China Index.
The gains have been so quick that they’ve encouraged risk-taking in ways not seen in years. Leverage on Chinese stock exchanges has surged past 1 trillion yuan ($142 billion) as traders rush to maximize profits.
It’s also helped stoke a surge in turnover, which topped 1 trillion yuan in the past six trading sessions -- something that hadn’t happened since the boom-and-bust days of 2015. One theory is that activity was boosted by millions of retail investors trading while they work at home because of the virus.
Just like early last year, Beijing is walking a tightrope between supporting its equity market and engineering another bubble. China’s expanding links to the global financial system means it’s harder than ever for the nation to keep its own troubles from spilling over to the rest of the world.
“Right now regulators might be cutting slack on cracking down on the speculative part of the market,” said Niu Chunbao, fund manager at Shanghai Wanji Asset Management Co. “They don’t want to suppress market fervor.”
To contact Bloomberg News staff for this story: April Ma in Beijing at ama112@bloomberg.net
To contact the editors responsible for this story: Sofia Horta e Costa at shortaecosta@bloomberg.net, Michael Patterson
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