China Stock Market Misses Out on Boom

It’s been four years since Zhou Xiao and her husband, textile workers in their late 40s, put their family’s savings of about $36,000 into China’s stock market.

The couple had hoped to make enough money to buy a house. Instead, they lost half their investment and still live with relatives, while Shanghai’s home prices have soared.

“We’re trapped,” said Zhou, sitting in a securities trading hall in this city’s French Concession area, her eyes fixed on an electronic tote board.

Millions of Chinese have learned hard lessons about the risks of playing the market. China’s national stock index sank 15% last year, making it the worst performer of the world’s major markets. The index is down more than 40% from its peak in 2001.

The losses might be a little easier to swallow if China’s economy wasn’t doing so well. Last year, the nation’s economic output surged 9.5%, the fastest pace of all large economies and more than double the U.S. growth rate.

China’s struggling stock market, analysts say, threatens the nation’s financial and social stability. Leaders meeting this week in Beijing for the annual National People’s Congress will consider proposals to address the ailing market.

The problem reflects an underbelly of China’s booming economy. Although price declines are in part a correction of heady values in prior years, many experts say insider trading, fraud and a lack of financial disclosure are undermining investor confidence.

Another big drag is the market’s ownership structure. Two-thirds of the shares, measured by value, belong to the central government and are not tradable. Beijing wants to unload its holdings onto the market, in large part to reform corporate governance practices, but the move could further depress prices.

“This is a totally debilitating situation,” said Donald Straszheim, a Los Angeles-based economist specializing in China.

It’s unclear what action, if any, Chinese legislators will take to fix this problem. The state has taken several steps in recent months to bolster confidence, such as reducing trading taxes and promising to set up a fund to protect investors in bankrupt brokerages.

But most of the more than 300 proposals being considered by the congress have nothing to do with the market problem. Among dozens of economic matters to be considered, analysts agree that the top priorities remain clamping down on corruption, narrowing the nation’s wide income gap and reducing regional economic disparities.

Most of China’s stockholders live in the more well-to-do coastal cities, such as Shanghai. Although there are about 70 million open accounts in China’s two exchanges -- Shanghai and Shenzhen -- which opened in the winter of 1990-91, the actual number of retail investors is much smaller. The major players are individual professionals and fund managers, according to Carl Walter, managing director of J.P. Morgan’s China business and author of “Privatizing China.”

Still, he said, the poorly performing market has serious long-term social and economic implications.

For one, a weak market hinders the financial outlook for Chinese citizens, whose incomes have grown robustly in recent years. The Chinese have one of the world’s highest savings rates, but savers have become increasingly frustrated by the lack of decent places to invest. For now, they aren’t allowed to buy overseas investments, and domestic banks and bonds generally pay a paltry interest rate of 2% to 3%. Those who can afford it have bought real estate, but that has contributed to what some believe is an unhealthy escalation in prices. Others are plowing money into underground lending channels, causing headaches for the government and borrowers alike.

Pension funds and insurance firms also need healthy market returns to help meet their obligations to provide retirement savings for China’s large and rapidly aging population, said J.P. Morgan’s Walter.

For China’s corporate world, however, the poor stock market isn’t a huge impediment. Stock offerings play a relatively small role in corporate financing. Chinese companies wanting to tap capital markets can sell shares in Hong Kong, Singapore and New York.

More than 100 mainland Chinese companies, for example, are currently traded on Hong Kong’s stock exchange. Their share prices, as a whole, have performed considerably better than the 1,370 listings on the Shanghai and Shenzhen exchanges.

Forty-three Chinese companies, including China Petroleum & Chemical Corp. and China Telecom Corp., are traded in major U.S. exchanges, nearly twice as many as 18 months ago.

“The tremendous bear market in China is resulting in more companies wanting to come to the U.S.,” said Tim Halter, whose Texas-based firm has tracked U.S.-listed Chinese stocks since 2003. The Halter USX China index doubled in 2003 but was flat last year and is down 4% so far this year, he said.

But analysts say it’s unhealthy in the long run for more Chinese firms to be listed abroad. Foreign investors are more prone to make quick and wholesale exits when news turns bad. Stability is enhanced when the bulk of investors are domestic, whether individuals or institutions, said Henry Ho, co-head of China research at UBS Investment Bank in Hong Kong.

Ho said China’s lackluster market, while not a barometer of the nation’s economic growth, is indicative of investors’ lack of confidence in many Chinese companies.

Many state-owned enterprises that are listed have a long history of performing inefficiently. It doesn’t help that government-owned banks persist in lending them money despite their poor performance.

Yet, even with their price declines, domestically traded Chinese stocks may still be overvalued, Ho said.

By one common valuation, stocks traded in Shanghai and Shenzhen are priced at about 20 times earnings per share, twice the ratio for Chinese companies listed in Hong Kong.

That’s not a comforting prospect for stockholders like Shao, a 65-year-old Shanghai man who would give only his family name. The retired petroleum worker said he invested his retirement money just as things were turning down about four years ago.

On a recent afternoon, he came out of a stock trading hall, one of more than 400 in Shanghai, with a look of dissatisfaction. In past years, he said, stock prices rose in the days before the annual congress session. But not this time.

“For normal people like us, we don’t know what to think about the market,” Shao said as he rode off on his bicycle.