China stock market bubble could wipe out trillions

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The Chinese stock is in a bubble. Bloomberg  reports that the value of Chinese stocks is poised to reach $10 trillion after the Shanghai Composite Index climbed 8.9 percent this week, its biggest jump this year, to close above 5,000 for the first time since 2008.  The Shanghai measure has jumped 146 percent in the past 12 months, the most among major global benchmark indexes.

This has all the signs of a bubble.

China’s current bubble shares some similarities to America’s dot-com boom that lasted through the late ’90s. In both cases, tech stocks fuelled extreme stock gains, and new investors came in, lured by stories of huge gains. But there’s a difference between the two markets.

In the American dot com boom, a lot of companies like Microsoft got a investor money. These are real business. But in China, many of the companies don’t have a track record. These companies are capitalising on investor greed by pretending to be something they’re not. There’s not a Microsoft among them.

The Economist, for example tells the story of Kemian Wood Industry, a company that made wooden flooring. When sales slumped, they switched their focus to online gaming and changed the company name. After its rechristening as Zeus Entertainment in early March, the company’s  share price doubled in short order.

This is insane and the bubble will burst wiping out trillions. Investors tempted to jump belatedly into China’s 2015 stock rally might want to recall the greater-fool theory. Booms end in busts, and the turning points are hard to time. But the bust is inevitable.

The bursting of the US bubble resulted the global financial crisis. China, the world’s second-largest economy, will have a similar impact.

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