Mark Mobius: China's stock market may surpass US market within 3 years
Bloomberg reports that Mark Mobius thinks that China's stock market valuation may surpass the American markets within 3 years:
I'm not a fan of Mobius and think he is more wrong than right (for instance, he was bullish on emeging markets 6 months to an year ago, with detrimental results) but, nevertheless, I wanted to address this point, which has been made by many others as well.
It would be highly irrational if China's market cap will surpass America's. I hate to predict anything, partly because China is already sitting on some bubbles in my opinion, so anything is possible. You can certainly make money betting on some macro trend even if it is a bubble; but it is very risky and doesn't stand any rational test.
As the article above says, China's total stock market capitalization is around $3.2 trillion, while USA's is $11.2 trillion. If you assume the American stock market valuation roughly stays the same, Mobius is basically saying that he Chinese stock market value will at least triple. Note that we are looking at total stock market value so it doesn't necessarily mean existing security prices will triple. Rather, the stock market value rises because new companies are listed on the stock market (or existing ones issue a ton more new shares).
Here is why this seems like a bubbly scenario to me:
China's GDP in market-exchange terms is around US$4.4 trillion, while its PPP-adjusted GDP is $7.9 trillion. USA's GDP is $14.2 trillion (same value for market-exchange and PPP since base currency used in tabulation is US$.)
If we look at the ratios, here is what we get:
China market cap to GDP (market-exchange terms): 3.2/4.4 = 72.7%
China market cap to GDP (PPP terms): 3.2/7.9 = 40.5%
USA market cap to GDP: 11.2/14.2 = 78.8%
I am not sure if one should be looking at market-exchange GDP or the PPP-adjusted one (anyone reading this know?). I suspect it has to be the market-exchange GDP but am not entirely sure.
If you use GDP in PPP terms, the current ratio (40.5%) is almost half of the US ratio (78.8%). So there is some room for market cap to rise if you assume China's stock market is develops to the level of the American one. But even then, a tripling of the stock market would put it into bubble territory. It depends on how much GDP (the denominator) grows in the next three years but we would probably have a stock market to GDP ratio of around 100% if China's stock market triples.
This ratio rarely goes above 100%, at least in America. In the last 100 years or so—I don't have data for the 18th and 19th centuries—it has only gone above 100% in the late 90's to the early 2000's (basically the technology bubble). I have used this before but to repeat, here is the famous chart that Warren Buffett uses of stock market capitalization to GNP (GDP is very close to GNP so don't worry about that minor difference.)
On market-exchange GDP, China has similar stock ownership (relative to GDP) as USA. If the stock market valuation triples, it would really put it in bubble territory. Depending on how much the GDP (denominator) grows in the next 3 years, you are looking at a stock market to GDP ratio of around 200%!!! This would rival the spectacular dot-com bubble, aka TMT (technology media telecom) bubble, aka 90's New Era bubble. We all know how that ended.
So regardless of the GDP you use, the Chinese stock market would likely be in a major bubble if market cap tripled. Mark Mobius is making the big mistake of paying attention to the trees, while overlooking the forest. The other analysts quoted in the article, talking about private companies versus SOEs, also misses the point. What Mobius says—greater listings or share issuance; more Chinese citizens buying shares—is true. But it is questionable whether that will lead to China's markets surpassing the US market value within 3 years, while avoiding a massive bubble.
Of course, Mobius never says that this wouldn't be a bubble. It's possible that he is investing with the knowledge of a potential bubble. But long-term investors should be really careful investing based on such an outlook.
China’s stock market may surpass the U.S. as the world’s largest by value in three years as state- owned companies sell new shares and the nation’s 1.4 billion people put more of their money into equities, Mark Mobius said.
“The Chinese population is just dipping its toe into equities and they’ve got a long way to go,” Mobius, who oversees about $25 billion of emerging-market assets as executive chairman of Templeton Asset Management Ltd., said in an interview with Bloomberg Television in London. State-owned companies are “coming up with more huge” initial public offerings, he said yesterday.
China’s market is valued at $3.2 trillion, compared with $11.2 trillion in the U.S., according to data compiled by Bloomberg.
I'm not a fan of Mobius and think he is more wrong than right (for instance, he was bullish on emeging markets 6 months to an year ago, with detrimental results) but, nevertheless, I wanted to address this point, which has been made by many others as well.
It would be highly irrational if China's market cap will surpass America's. I hate to predict anything, partly because China is already sitting on some bubbles in my opinion, so anything is possible. You can certainly make money betting on some macro trend even if it is a bubble; but it is very risky and doesn't stand any rational test.
As the article above says, China's total stock market capitalization is around $3.2 trillion, while USA's is $11.2 trillion. If you assume the American stock market valuation roughly stays the same, Mobius is basically saying that he Chinese stock market value will at least triple. Note that we are looking at total stock market value so it doesn't necessarily mean existing security prices will triple. Rather, the stock market value rises because new companies are listed on the stock market (or existing ones issue a ton more new shares).
Here is why this seems like a bubbly scenario to me:
China's GDP in market-exchange terms is around US$4.4 trillion, while its PPP-adjusted GDP is $7.9 trillion. USA's GDP is $14.2 trillion (same value for market-exchange and PPP since base currency used in tabulation is US$.)
If we look at the ratios, here is what we get:
China market cap to GDP (market-exchange terms): 3.2/4.4 = 72.7%
China market cap to GDP (PPP terms): 3.2/7.9 = 40.5%
USA market cap to GDP: 11.2/14.2 = 78.8%
I am not sure if one should be looking at market-exchange GDP or the PPP-adjusted one (anyone reading this know?). I suspect it has to be the market-exchange GDP but am not entirely sure.
If you use GDP in PPP terms, the current ratio (40.5%) is almost half of the US ratio (78.8%). So there is some room for market cap to rise if you assume China's stock market is develops to the level of the American one. But even then, a tripling of the stock market would put it into bubble territory. It depends on how much GDP (the denominator) grows in the next three years but we would probably have a stock market to GDP ratio of around 100% if China's stock market triples.
This ratio rarely goes above 100%, at least in America. In the last 100 years or so—I don't have data for the 18th and 19th centuries—it has only gone above 100% in the late 90's to the early 2000's (basically the technology bubble). I have used this before but to repeat, here is the famous chart that Warren Buffett uses of stock market capitalization to GNP (GDP is very close to GNP so don't worry about that minor difference.)
On market-exchange GDP, China has similar stock ownership (relative to GDP) as USA. If the stock market valuation triples, it would really put it in bubble territory. Depending on how much the GDP (denominator) grows in the next 3 years, you are looking at a stock market to GDP ratio of around 200%!!! This would rival the spectacular dot-com bubble, aka TMT (technology media telecom) bubble, aka 90's New Era bubble. We all know how that ended.
So regardless of the GDP you use, the Chinese stock market would likely be in a major bubble if market cap tripled. Mark Mobius is making the big mistake of paying attention to the trees, while overlooking the forest. The other analysts quoted in the article, talking about private companies versus SOEs, also misses the point. What Mobius says—greater listings or share issuance; more Chinese citizens buying shares—is true. But it is questionable whether that will lead to China's markets surpassing the US market value within 3 years, while avoiding a massive bubble.
Of course, Mobius never says that this wouldn't be a bubble. It's possible that he is investing with the knowledge of a potential bubble. But long-term investors should be really careful investing based on such an outlook.
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On the PPP issue:
ReplyDeleteIt seems to me that there is no reason to adjust for PPP. When you compute US market/GDP, what you are really doing is computing
US market (in US$)
______________
US GDP (in US$)
By the principles of algebra I, the US$ terms cancel out, leaving you a currency neutral ratio. The same thing of course applies to the Chinese ratio. The ratio would be the same whether computed in Chinese Yuan, US$, Thai Baht, or bottlecaps, so long as a consistent exchange rate was used.
The PPP numbers do make it look likely that the Yuan will rise relative to the dollar over the long term, however.
In any case, I think the parity scenario is pretty far-fetched, unless the US dollar and markets collapse, while China booms. Or unless China goes into a serious bubble, which could happen, but is certainly not predictable.
I agree with you on this particular post, but I've noticed a trend. Every time you post on emerging markets, you have a bearish view.
ReplyDeleteHow cheap would emerging markets have to get to tempt you?
For instance, I own shares in GXC, a China ETF. Yahoo lists its PE as 15. Do you think this is an absurd price, or just not a bargain? Would a 25% decline from this level get you interested? 33%? 50%?
BTW, thanks for the note about PPP GDP. It clarifies my thought...
ReplyDeleteYeah, I have been perpetually bearish on emerging markets for a long time. I think it may be a flaw with me and, like everything else, you should temper my view with what the bulls are saying. I was bullish on EM a while ago (I actually owned the China ETF, FXI, for a short while) but am not comfortable with the economic environment. It seems like there may be bubbles. But then again, I have been wrong recently (although China did crash an year or two ago) and bottom-up investors like Martin Whitman do not see any risk with overloading with China-oriented equities.
I think my problem is that emerging markets is that their valuations are high and that never attracts me. Now, there is a reason why valuations are high: future earnings are projected to grow significantly (now that you bring up this idea, let me post a brief thought on i). But that's not my game. It's pretty much growth investing.
The downside risk with avoiding EM is that I will miss out on spectacular growth opportunities. It's sort of like avoiding, say, Japan in the 60's and 70's; or USA in the late 1800's or early 1900's.
As for China, I am bearish and don't like it. It's almost a category that I won't invest at any price (but not quite). For instance, I have decided I won't invest in Russia at any price (but China isn't as bad as that). The problem with China is that I am not too confident with their property rights, and I am really concerned about a potential for chaos due to a political crisis or a massive bubble in fixed assets (infrastructure, real estate, factories, etc). You should keep in mind that this is just my opinion and I could be completely wrong on the potential for a bubble, as well as the political risk. You should see if I'm right and if not, you should dismiss my view.
In terms of emerging markets, I am turning more bullish on Brazil. I have to do more research though...
One final thought--this is very important. Some of what we discuss depends on our investing strategies. My impression is that you are more of a diversified investor, holding many different asset types, sectors, regions. If you have, say, 5% to 10% in China, it may be ok. The risk is still there but the very high upside may make up for it.... In contrast, I am a concentrated investor. I usually invest 10%, and sometimes up to 40%, in one position. So, I only invest if I'm confident. I am wrong at times (Ambac for example) but I don't invest if I'm not comfortable.