Things are a little crazy in China these days. As the chart above shows, stocks have crashed, falling by almost ⅓ in less than a month. That's one heck of a bear market. But stocks are still up 72% in the past year, and that's one heck of a bull market. On balance, the market value of Chinese stocks today is almost $3 trillion more than it was a year ago, and that's nothing to sneeze at. Meanwhile there has been a frenzy of trading, both as stocks rose and as they fell.
This looks to me like an immature, lemming-style market (at one point it had risen over 150% from its year-ago lows) with inexperienced investors piling in as stocks rose to dizzying heights, and then selling in panic as prices started to return to more reasonable levels. And it hasn't helped that the government has been actively meddling, trying to keep prices from falling by pulling out all the stops—lowering reserve requirements, halting trading, banning short sales, suspending IPOs, relaxing lending standards, buying stocks, to name just a few. Instead of letting the market find its equilibrium—and educating investors in the process—the government is likely making the mistake of trying to keep stocks overvalued. Even if stocks fell another 20% (and I wouldn't be surprised if they did), they would still be up over 40% in the past year, and that would count as a great year by any measure.
It's all very unfortunate, and it's making people all over the world very nervous.
My recommendation: instead of worrying that the collapse of stock prices is going to trigger a collapse of the Chinese economy, I'd be thinking that what was a crazy-overvalued, bubble market just a few months ago is now coming back down to earth. China is not collapsing, it's learning how to deal with prosperity.
I note that the Chinese yuan has been relatively stable for the past few years, and the central bank's foreign exchange reserves are massive and relatively stable as well. These are powerhouse numbers.
On an inflation-adjusted basis, and relative to a large basket of other currencies, the yuan has almost doubled in value since 1994. In dollar terms, the market value of Chinese stocks has skyrocketed from $330 billion in 2005 to just over $6 trillion today. The works out to annualized gains of over 30% for 10 years running, and that is simply spectacular. You can't ask for much more than that.