Chinese Stock Markets – A reversion to the mean


If it can be argued that the jaw dropping collapse of the Shanghai Composite Index since mid-June is in part the reason for so much of global equity market volatility, is it fair to argue that the relative calm that has set in since late August is reason to believe we have seen the worst and that markets can begin to look more constructively into the near term future?

From December 31, 2014 to June 12, 2015, the Shanghai Composite Index rallied 59.74% daring investors to get on the train or be left behind. In the subsequent two months and 2 weeks, the same index lost 41.73% in a free fall fashion that left many investors that had been chasing returns, scorched. The Shanghai Composite Index was not alone in its ferocious free fall though. It had plenty of company though no major global equity index illustrated the danger of following the herd and chasing returns more efficiently.

U.S. equity market indices also fell in the period, though from less lofty heights. The Dow Industrials fell into correction territory as did the S&P 500 for the first time in years. However, a stock market correction is not a similitude for a what transpired  with the Shanghai Composite Index in the period in which it transitioned from a meteoric rise to correction to near collapse. Since the YTD closing low of 2964.967 on the Shanghai on August 25, the index has apparently stabilized – registering a small gain of 1.38% as of last night’s close. US equity markets have stabilized over the same three week period. A degree of relative calm has emerged in global equity markets. Volatility has also clearly slumped dramatically in the period.

On a YTD basis, the Shanghai is now loosely in-line with U.S. equity market performances – it is negative to the tune of 7.08%. The Dow Industrials stand at – 6.94% over the period and the S&P 500 is off 3.73% on the year thus far. The best performing U.S. equity market index is the NASDAQ which stands with a gain of 2.41%. It would appear as though the laws of physics have been at work as we have seen a massive global reversion to the mean.

Clearly, US equity markets are significantly more mature and sophisticated than Chinese equity markets and given all of the market structure innovations and alterations in that equity market regulatory landscape, investors should not be surprised by the growing pains exhibited by Chinese equity markets.  That aside, global markets have taken a noticeable step away from the breech in recent weeks. This is a welcome development as we head what is historically the most volatile season of the year for US equities. Having the long overdue Chinese equity market correction behind us removes a potentially significant headwind for US equity markets.