Markets rebound: 'dead-cat bounce' or the real deal?

US markets surged on Wednesday, Asian bourses all closed higher after choppy overnight trading and European indices are well into positive territory on Thursday morning. Have we seen the bottom of a short-lived crash, or is this merely a pause in the plunge?

Key is why investor sentiment shifted after a torrid period that culminated in a panicked selloff on Monday on a scale not seen since the collapse of Lehman Brothers triggered a global financial meltdown in 2008.

Central banks gave strong indications they will step in to support markets: the People's Bank of China has in recent days cut interest rates, boosted bank liquidity and embarked on a fresh round of stimulus; the Federal Reserve in America gave its strongest indication yet it will keep monetary policy loose; and the European Central Bank pledged to increase its monthly €60bn stimulus if weak commodity prices continue to drag on inflation. Investors felt there was cause to add risk at currently low valuations.

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In the US The Times notes the Dow Jones and the S&P both ended around four per cent higher. This was followed by an extremely positive session in China, where the benchmark Shanghai Composite rose 5.4 per cent and closed above the psychologically important 3,000 barrier. Markets were up across Asia, while in Europe major indices are as much as three per cent higher on Thursday.

But trading also remains extremely volatile. In China, after a session of fluctuating fortunes, the Shanghai index was heading into the last 45 minutes in the red, before a late six per cent swing that Bloomberg markets editor Lorcan Roche Kelly remarked has become typical in recent weeks.

Amid a lot of commentary that China's slowing growth has been over-hyped and that the falls were little more than a correction, this has persuaded some that there could be yet more difficult times to come.

David Madden, a market analyst at stockbroker IG, told The Times "fear continued to stalk markets". He said "the phrase 'dead-cat bounce' has been bandied about this morning" – referring to a small jump that provides only temporary relief in a prolonged downturn – and that "unless we have a fresh round of buying then the rally will unravel".

China rate cut fails to calm investor jitters

26 August

"What the heck is going on with stocks?" asks the headline of a video on CNN Money.

It is a good question. After a strong European rebound on Tuesday fuelled by a major Chinese government intervention to support its own ailing markets, US indices opened strongly – and then turned wickedly at the end of a "wild day of trading" to finish lower. China too opened up, bounced around and headed into the last hour 3.1 per cent to the good, before ending 1.3 per cent lower for the day. European markets are trading more than 1 per cent lower on Wednesday morning.

"There's still fear around the edges," said Bruce McCain, chief investment strategist for Key Private Bank. "You need some signs that the market is stabilising to reassure people it's not going to roll off the edge of a cliff and go tumbling down further."

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It had appeared that belated action by Chinese authorities – Reuters notes the People's Bank of China "re-entered the fray late on Tuesday, cutting interest rates and further loosening bank lending restrictions" – would bring much-needed liquidity and calm investor jitters after two sessions of severe losses. European markets, already on the up, surged and closed three per cent up or more; US markets opened four per cent up.

But investors are far from calm and Chinese markets in particular were "typically erratic, lurching between gains and losses of more than 3 per cent before ending the day modestly lower". Investors' caution was understandable, said Lim Say Boon, chief investment officer at DBS Bank, who suggested "what the market is waiting for (is) the 'big bazooka' of government spending".

Losses were, though, lower and Europe is not tanking as it did during Monday's panicked selloff. Economic data in key countries such as the UK and US is strong, which is giving some traders hope that the current downward shift is temporary and offers opportunities to go bargain hunting.

"I still think this pullback is a buying opportunity," Scott Wren, senior global equity strategist at Wells Fargo Investment Institute, told CNN. "I still have confidence in the US economy."

China concern: crisis, correction or 'flash crash'?

25 August

What is really happening in China? Statistics show the main market in Shanghai fell sharply by 7.6 per cent overnight, marking a second severe decline after the 8.5 per cent slide on 'Black Monday' and prompting a rush of headlines warning of a "crisis", or even a "capitulation".

But after a day of panic selling across global markets, European indices are rallying by more than two per cent on Tuesday and even commodities are paring losses. Does this mean we needn't be worried by the crash in China, which some suggest is merely a "correction" that was long overdue?

'Flash crash'

If it's a short-lived phenomenon, could we call the selloff just a "flash crash"? The short answer is no – and certainly not in China, where shares have fallen markedly for two sessions and been moving south since last month.

Bloomberg says we can't even say this of US markets, which recovered by about one per cent by the close from where they opened on Monday, because the market was beset by volatility at levels "not seen for years" and the main indices still ended around four per cent off for the session. It compares this with the real deal, the 'flash crash' that gave the phenomenon its name in 2010, when the S&P 500 "lost almost $1,000bn in value before almost immediately recovering most of its losses".

Correction

There's a lot more analyst support for this being nothing more than a technical correction, though. Again this is especially true in China, where the Financial Times' Patrick McGee notes indices are well into bear market territory from a summer peak, but this is only after they had risen to levels most felt could not be justified or sustained.

By April the benchmark Shanghai Composite had risen 88 per cent from the prior summer to 3,863 points – and it increased still further as the "rally went into hyper-drive". By 12 June it had extended the total increase to 151 per cent. In fact the 40 per cent overall fall since then only takes the market narrowly into negative territory for this year.

Even the drops elsewhere must be seen in the context of a multiyear bull run that some commentators have been predicting would come to an end sooner rather than later. Raymond James' chief investment officer Jeffrey Saut, who manages about $500bn in assets, told the Australian Financial Review the US stock market would not implode. "We do not think this is a crash, it's just a normal 10 to 12 per cent correction," he explained.

Crisis

All of that said, there are reasons to be worried and that explains the wider market reaction on Monday. The New Zealand Herald notes the "unavoidable reality that Chinese economic growth is slowing… faster than hoped". As a major consumer of global commodities and resources on which blue-chip companies around the world have become heavily dependent, this has major implications. The FTSE 100, for example, is chock-full of mining and resources firms that rely on Chinese consumption, which led the index to its £50bn-plus selloff on Monday.

If Chinese growth seriously undershoots and undermines exporters it could threaten fragile recoveries under way around the globe. But it is too early to tell if that is where we are, says McGee in the FT. "The collapse in China equities tells us very little about China's economy, it only indicates Beijing's reluctance to prop up the market."

Will China fall further after 'Black Monday'

24 August

Despite the Chinese government's attempts to prop up share prices, the country's stock markets are in free fall.

Of 1,114 stocks in the benchmark Shanghai Composite index, the Financial Times says nearly 900 were down on Monday by more than 9.9 per cent, a figure that nudges a daily losses limit of 10 per cent. Just five stocks rose and the index closed down 8.5 per cent overall.

Numerous interventions by the authorities have failed to prevent the main market falling by 38 per cent from a peak earlier this summer and moving into the red for the year. As concern grows over the health of the Chinese economy, there are now fears that losses will continue and that a contagion which has already caused global commodity and equity markets to plummet will spread.

A note from Societe Generale analyst Wei Yao cites an emerging consensus that an already reduced target of a seven per cent expansion in the Chinese economy this year will not be met. The analyst warns that the "structural growth deceleration is only half-way through".

China is a huge consumer of commodities and most major global exchanges are ridden with companies heavily exposed through exports. This explains the broader markets slide – and given the recent devaluation of the yuan (and the consequent increase in domestic prices on overseas goods) markets could fall even further.

Of interest is the reaction of Chinese authorities. Bloomberg notes a range of measures to prop up markets when they began their slump in June and July, including "arming a state agency with more than $400bn, banning selling by major shareholders and telling state-owned companies to buy stocks". The latest action is to allow pension funds to invest as much as 30 percent of their total net assets in stocks.

But this falls short of the formal monetary stimulus many analysts say is needed to boost sentiment, perhaps by reducing reserve requirements for banks in order to free up capital. This, says the FT's Patrick McGee, has convinced investors that Beijing is willing to allow stocks to crash and is "caught in a bind between the need to support the slowing economy and a desire to pursue wider reforms".

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All of which means, according to the paper's Alphaville column, "tin-hats on for a bit folks".

Chinese shares rise after turbulent week

10 July

Beijing's measures to prop up Chinese stock markets seem to be taking effect as shares posted further big gains today, after similar share price rises yesterday.

China's Shanghai composite index closed up by 4.5 per cent, the New York Times reports, prompting gains on other Asian exchanges. In Tokyo, the Nikkei climbed by 0.4 per cent and the Hang Seng in Hong Kong rose by 2 per cent.

Beijing had intervened after weeks of turmoil, with markets plummeting since mid-June. By Wednesday, the downward spiral had erased 32 per cent of the value of the Shanghai index.

Last weekend, the Chinese government introduced a series of policies to stem the decline. These included a broker-backed bailout fund and a ban on larger investors from selling shares in companies. Meanwhile, insurers and large state-owned companies were urged to invest in the market.

Some critics argued that the measures were too short-term. However, with today's gains, a consensus is emerging that the policies are proving a success.

Deutsche Bank's Chinese equity strategist Yuliang Chang said: "The market is on the right track to de-lever A-shares and will rebound from cheapened valuations, with fundamentals to follow later."

Meanwhile, in a written report, Morgan Stanley said: "Market movement appears to indicate that government actions are working. Though not everyone agrees with the sequence and order of the government actions, we believe they have helped to achieve meaningful deleveraging in the equity market without triggering systemic risks."

However, the Financial Times sounded a note of caution. It said some analysts are forecasting that China's A-share market will probably remain under pressure as investors unwind positions based on borrowed cash.

Why is Beijing meddling in the markets?

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China stocks bounce back after emergency measures

6 July

An emergency weekend intervention by the Chinese government has brought some stability to the country's plunging stock markets this morning.

The Guardian reports that Shanghai's stock index rose by almost 8 per cent in the first ten minutes of trading. Within an hour, those gains dropped to 3.23 per cent, and the market then fell into negative territory before rebounding to close more than 2 per cent up – despite downward pressure when Greece voted against its debt bailout.

The recovery came after Beijing acted to prevent further losses on the stock markets, which have seen falls of 30 per cent over the past three weeks. Rumours of investors committing suicide have swept across social media in recent days.

In response to the crisis, the Chinese government has teamed up with financial institutions to launch a three-pronged effort to prevent more losses.

The nation's 21 largest brokerages announced that they would buy at least 120 billion yuan (£12.3bn) of shares to help prevent a fresh market slump, and new share offerings were suspended on orders of the State Council.

The People's Bank of China promised to provide liquidity for state-back lender China Securities Finance Corp, a state-owned company which provides margin loads to brokerages.

Analysts are confident that the measures will go some way to help China's markets, which had previously been among the top performing in the world. It hit a seven-year peak as recently as the middle of last month.

Meanwhile, a collapse in commodity prices has helped spare Beijing's blushes. China's economy would have grown at less than 6 per cent in the first quarter of the year were it not for the collapse in global commodity rates, according to the Financial Times.

However, China's latest economic data has added to growing doubts over whether Beijing can achieve its 7 per cent growth target for the year.