IN times of crisis, it’s always a smart move to heed the sage words of Douglas Adams’ Hitchhiker’s Guide to the Galaxy.
This has been a roller-coaster week on the global markets, as doubts about the strength of China’s economy have led to a form of mass hysteria.
It’s time to pause and take a deep breath. But first, let’s recap. On Monday, the FTSE 100 index slumped to its lowest level in almost three years, as “the great fall of China” caused panic in world markets.
A nine per cent dive in Chinese shares, and a sharp drop in the dollar and major commodities, triggered an alarming slide in equity markets.
Since then, the FTSE has recovered some of its composure, but concerns linger about the true state of China’s economy. But to understand the reasons for the turmoil, we must examine the quirks of the Chinese stock market.
As Rob Donaldson, Head of M&A and Private Equity at Baker Tilly Corporate Finance observed, over the last few years, tens of millions of individual investors in China have been encouraged by the state to put their money into shares.
These individuals, who often hang on to shares for a short time, vastly outweigh institutional investors.
Mr Donaldson said: “This has pushed prices up far beyond their fundamental value and what we are now seeing is a painful, but perhaps necessary, return of common sense.
“What is perhaps more surprising is the degree of knock-on effects to share prices on the FTSE and across European markets, but we should perhaps be wary of undue panic. “Fundamentally, the Chinese economy was always going to slow as the middle kingdom neared middle income status. That has, time and again, been the experience of the so called tiger economies that came before it.”
As Mr Donaldson argues, perhaps it’s time for the rest of the world to take up some of the slack. because China helped to keep the global economy ticking over after the financial crash of 2008.
Speaking on Monday, he said: “As capital flight continues and hot money heads for the exit, a possible side effect is that investors will now be more likely than ever to look to make their money work for them elsewhere – including in the UK.
“Chinese companies and investment firms who have entered the private equity market are increasingly looking to the UK, and we have recently seen Hony Capital’s investment in Pizza Express, Wanda’s investment in Sunseeker International and Baring Asia investing in Cath Kidston to name but a few...
“This correction may also have a silver lining in that there will be reduced inflation pressures for UK PLCs, and will potentially influence the Bank of England when it comes to the timing of an interest rate rise.
“In the medium term, whilst there will be volatility, it is likely to keep the Western recovery on track as central bankers keep their foot to the floor, feeling they can safely ignore inflation concerns - at least for now.’
“We think interest rate rises have just been pushed back into 2016.”
Sir Martin Sorrell, the chief executive of global advertising group WPP, described the events in China as a correction.
Sir Martin said recent events in China must be seen in the context of 30 years of growth and hundreds of millions of people taken out of poverty.
The majority of economists predict a continued deceleration - rather than a crash - for China’s economy, and most dismiss comparisons with the 2008 global financial crisis or the 1997/98 crisis in Asia.
“The upshot is that there is no sign in the recent data of a deepening economic crisis,” wrote analysts at Capital Economics. “With policy support gathering force, a rebound in growth still looks the most likely outturn for the next couple of quarters.”
Prudent investors know that this is a time for calm appraisal.