China Bubble: Shanghai Market Crashing

China's Shanghai Exchange (SSEC) has decisively broken below a trading range and is dropping fast, down 5% Monday, 20% since early May and  25% so far for 2010. Just ten days ago, as China announced more tightening, Marc Faber warned of a China crash.  Dr. McHugh put out a crash! call this weekend. After the big drop off 2007, it was first to rebound, starting in Nov08, and the first to peak, in Aug09. It has been in a big sideways move ever since, but has now dropped below the lower trendline (chart courtesy ContrarianAdvisor):

   

It is down 25% in nine months, and well below the 200 DMA, both signals for a big bear market. Earlier this month the momentum oscillator (ROC) crossed to negative, another bear confirmation. When the 50 DMA fell below the 200 DMA in late March, it was a Death Cross signal:

Now, a case can be made that this is a short term drop, not a crash, but it is getting more difficult after the fast drop of the past two weeks. Given the volatility of the SSEC, these signals may go away quickly; also, while it looks like the SSEC is foreshadowing US markets, the reality is that it is much smaller and some pundits say it has little impact on the US. Instead, it is more like the NASDAQ, driven by the retail investor, as compared with the other Chinese exchange, the ADR, driven by institutions. (For a really good dissection of the SSEC, go here.) Hence the views of Jim Trippon, who expects a bounce, and the blog trendlines, which follows China and India closely, that expects a bounce as well. Trendlines reasons that while the SSEC is in a bear market, after the current downturn, it will go back above the Aug09 levels to complete a C wave of a big ABC off the Nov08 low. So far it has only retraced 2% of the big drop off 2007, and a 50-62% is more common, as we saw with the Hope Rally:

 

In some respects, however, the SSEC both presages and reacts to other changes globally. It may not lead the US, but it acts as the most sensitive canary in the global coal. As I will lay out more in a post on commodities, a fall in the SSEC preceded the big bubble peak in commodities in 2008, and it may be signaling the peak of the bubble echo in commodities. The logic is straightforward: China has become a huge buyer of commodities, and in the past year has been stockpiling. A fall in the SSEC is the leading indicator of a pullback in China's economy. 

Also, Euro weakness may be hitting China. Europe is a large trading partner with China, and the Euro drop may accelerate an SSEC drop, as it means less imports from China. The SSEC may not yet be responding to that, but they will. 

Most likely the SSEC is falling because Chinese manufacturing growth is slowing. The tightening is having an effect. This was signaled by the turndown of the Chinese PMI in Q1:

 

It is interesting to read economist opinions on China's red hot 11.9% GDP growth in Q1: largely sanguine about Chinese prospects even though the Q1 jump is largely an artifact of a weak Q1 a year earlier. There have been concerns over suspicious Chinese stats. They measure GDP differently - essentially when budgeted, not as actually produced. The hot Q1 really means spending is out of control, hence the tightening, which includes some fairly dramatic nullifications of local government loan guarantees - an indication of out of control debt-fueld bubble. 

Another indication was the surprising Q1 trade deficit. Those sanguine economists opined it meant China was rebalancing, meaning increasing consumer spending (imports from trading partners). On the contrary, it was due to investment-growth, not consumption. Imports surged due to stockpiling of commodities, and exports weakened due to weakness in the US and Europe:

 

Other than a passion for imported cars, which is driven by their version of Cash4Clunkers, China is not on a consumption spree:

 
Instead, China seems to be careening down the Stimulus Road, out of control, and now trying to grab the steering wheel. The WSJ has wondered what China will do to push back an incipient inflation, and believes they will have to allow the RMB to appreciate. Mish then asks this question in regards to a rise in the RMB, given tightening:

What would happen if China stopped its stimulus cold turkey, pricked its property bubbles, and allowed the RMB to float freely, and in response the Chinese stock market collapsed, social unrest picked up, and hot money poured out of China?

Well, the stock markets in China are crashing. China 2010 may be Japan 1989. The huge Chinese stimulus has caused surges that look a lot like Japan after the Plaza Accord in 1986, or the US in 1927 after the Brits went back on gold at the wrong level.  

Comments

[Mamma Boom Boom]

I started pointing out that the China-man's index was going to be a problem quite a while back.

[Wave Rust]

"Neely counts the sharp drop as the start of a triangle. We have a really clear test of NEoWave vs. Elliott Wave. He must count the drop as a "3", since triangles are a set of five 3-wave moves. (For readers who do not subscribe to Neely, he has the Jan-Feb5 drop an X wave, the rise since wave A, and says we are in a triangle wave B with a C to go to new highs. The sharp drop is leg a of B, the bounce leg b, and we either are still in b or have started leg c.) Neely says higher highs ahead, EWI says the top is in. "

Yelnick,
I was wondering what Neely labels the Jan high.

For me, it looks like a nested 1 (likely minor) and the down-up-down since then as an irregular a-b-c with minor 3 to come.

Actual degree doesn't matter too much right now, since it's setting up bullish.

wave rust

[Hockthefarm]

Great coverage on China Yelnick, thanks.

Maybe it is time:

You tell me there's an angel in your tree
Did he say he'd come to call on me
For things are getting desperate in our home
Living in the parish of the restless folks I know

Everybody now bring your family down to the riverside
Look to the east to see where the fat stock hide
Behind four walls of stone the rich man sleeps
It's time we put the flame torch to their keep

Burn down the mission
If we're gonna stay alive
Watch the black smoke fly to heaven
See the red flame light the sky

Burn down the mission
Burn it down to stay alive
It's our only chance of living
Take all you need to live inside

Deep in the woods the squirrels are out today
My wife cried when they came to take me away
But what more could I do just to keep her warm
Than burn burn burn burn down the mission walls

I guess Bernie had some real insights when he penned this one.
Hock

[Wave Rust]

Cant help but think that China stock index is nearly irrelevant.

in fact, this post is making me even more bullish.

maybe I should get longer tonight and tomorrow.

wave rust

[betterdays]

FCX is a put /sell short waiting to happen

[Mr. Panic]

I have another trading day cycle today. It could go either way and be a low or a high and not be apparent until hindsight but I was originally looking for it to be a high and thus a freefall should ensue ala Jan 20th when it once appeared. We have already had two important trading day cycles appear in the last two weeks which produced downturns; this third one should put into force the final downside action.
Cobra gives an apt description why today's hammer pattern is not a reversal unlike Feb 5's (which also had a greater shadow). Another reason is McClellan Oscillator is mildly negative and just made a pause (like the market) in its downtrend. (Breadth was still decently negative). I am looking for May 20th as a key low as I am seeing this date quite a bit in the financialsphere. One key reason being this date has been hyped as a key top date by TTheory dude and his advocates for quite awhile and thus the lemmings will stay long in this market in expectation of a high. Options expiration week is keeping many bullish also. In fact I see very little worry in the blogosphere. Many think this is a short term bottom. Of course the post April 4 2000 bounce and subsequent drop had a similar day to today. 3 hard down days followed to finish the momentum down part of the phase. (Final down day's entire body was below the late january 2000 correction similar to this years late Jan to Feb 5 correction) Many former "perma-bears" are now calling for SP 1300 and some are even going long during this drop (and some did on the crash day)
There is a technical signature that is indicating that a decent rally can only commence next week and the best the bulls can expect this week is sideways chop. Options expiration week in April 2000 was a sideways to up and then down week but that week should be the equivalent to next week.

[nspolar]

"I started pointing out that the China-man's index was going to be a problem quite a while back."

Mama ... what did you do about it?

ns

[Mr. Panic]

Shanghai Index topped out last July/August 50% above its 200day moving average which a bubble like top high or in this case a mini echo bubble high since Shanghai already accomplished this feat at its all time high in 2007. That's why I believe gold has furthur to run in its blowoff top if this is it. (other technical signature required for a blowoff top: 100% rally in less than a year and at least 100% above its 200 WEEK average.) Michael Belkin had done wonderful studies on bull and bear markets and how key moving averages should be applied to them but he seems to have disappeared from the financial scene. He would be a great topic for a Planet Yelnick article if he is still in the game.

[JT]

"I started pointing out that the China-man's index was going to be a problem quite a while back."

"Mama ... what did you do about it?"-ns

He doesn't do ANYTHING about it because he doesn't trade. Period.

[Gleen Loser Neely]

my son DG IS LOST!!!!!

has anyone seen it??????

i am gong to call the zoo right now!!!!

[Mamma Boom Boom]

>Mama ... what did you do about it?
ns<

Nothing, directly. It is just one more piece of the puzzle in US equities.

[Wave Rust]

longer

wave rust

[cheryl]

Yelnick,you mention McHugh

that's Doctor McHugh to you.
he doesn;t even like being called Mr McHugh!

[yelnick]

Cheryl, Dr McHugh it is!