An investor walks past an electronic stock board at a securities brokerage in Shanghai, China. (Photographer: Qilai Shen/Bloomberg)

Run for the Exits. China's Talking Up Stocks Again

(Bloomberg Opinion) -- Talk is cheap. Whenever China’s top banking regulators come out to calm the markets, you know their options are dwindling.

We are seeing a repeat of 2015. Stock-market valuations are near historical lows, and seriously out of sync with the country’s sound economic fundamentals, People’s Bank of China’s Governor Yi Gang said Friday. Chinese stocks are among the world’s worst performers this year. The Shenzhen Composite Index, which is dominated by private enterprises, has tumbled 35 percent.

Run for the Exits. China's Talking Up Stocks Again

How strong is China’s economy really? In the third quarter, GDP growth slowed to 6.5 percent, the weakest pace since the great financial crisis. 

Call it a double whammy. While top-line growth slows, China Inc. has also seen a sharp uptick in operating costs this year. From raw materials such as oil and steel to rental expenses, private enterprises are feeling squeezed. And they’re now expected to shoulder onerous social-security contributions – as much as 30 percent of an employee’s wages for pension and healthcare funds. Corporate fundamentals are anything but sound.

Run for the Exits. China's Talking Up Stocks Again

The central bank said it would explore ways to help private companies sell bonds, while the China Banking and Insurance Regulatory Commission urged lenders to refrain from selling pledged shares even when they sink to a stop-loss limit. Major shareholders of private businesses routinely use their stock holdings as collateral for advances loans. In the first half, 22 percent of listed companies pledged at least 30 percent of their shares for such financing. After this year’s decline, many are close to facing margin calls. 

This is all just grandstanding.

When an economy is slowing, it’s good risk management for lenders to cut exposure to less creditworthy businesses. In China’s case, this mostly means private enterprises; state-owned entities at least have the backing of Beijing.

In the second half, a staggering 1 trillion yuan ($144 billion) of share-pledged loans will be due, Moody’s Investors Service estimates. Liquidity usually tightens at year-end, so banks that don’t sell stock now may be faced with worse conditions later. 

Run for the Exits. China's Talking Up Stocks Again

By now, investors have realized there’s little the banking regulators can do.

Case in point: The central bank has cut lenders’ reserve ratios four times since September 2017, yet it’s been unable to prevent the stock rout. Banks are no longer required to park as much cash with the PBOC, but if the economic outlook is bleak, they’ll just put that money away as excess reserves rather than lending it.

Meanwhile, the PBOC is winding down a 3 trillion yuan “helicopter money” program to aid China’s poor through shanty-town redevelopments. Residents of smaller cities, who were the engine of consumption last year, may start to feel pinched too.

Run for the Exits. China's Talking Up Stocks Again

Chinese officials and state-owned media have repeatedly trumpeted messages of reassurance as stocks extended their slide this year. They may have arrested the decline for now, with the Shanghai and Shenzhen indexes recovering their morning losses as of the midday break Friday, but don’t expect it to last. This is a flashing red sell signal.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Shuli Ren is a Bloomberg Opinion columnist covering Asian markets. She previously wrote on markets for Barron's, following a career as an investment banker, and is a CFA charterholder.

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