Don’t buy the Shanghai Composite and China A50 dip: Morgan Stanley

Chinese stocks are in deep trouble as the woes in the property sector continued. The closely watched Shanghai Composite index crashed to 2,983 on Friday, the lowest level since November last year. It has plunged by more than 12% from its highest level this week.

Similarly, the China A50 index collapsed to 11,750 on Friday, its lowest swing since November. It has also crashed by 18% from the YTD high. This price action signals that investors are increasingly concerned about the Chinese economy.

China property index crashes

The Chinese economy is facing numerous headwinds, which have pushed its stock market sharply lower. The key challenge is that the property sector, which is its key driver, is going through its worst phase on record.

China's benchmark Shanghai Composite Index has hit a new year-to-date low despite Beijing's efforts to prop up the stock market as investors worry more about the troubled property sector. https://t.co/OdGOPds50n

— Nikkei Asia (@NikkeiAsia) October 19, 2023

These issues were laid bare following the collapse of Evergrande in 2021. The company, whose American business filed for bankruptcy, is on the verge of collapse. Its CEO and founder is under effective house arrest after authorities suspected he was moving his assets abroad.

Country Garden, another troubled developer, recently warned that its sales had plunged. It has now been unable to pay its dollar bonds. Combined, Country Garden and Evergrande have almost $500 billion in total liabilities. Other smaller real estate companies are not doing well either.

The challenge for China is that the real estate sector is the most important part of the economy, accounting for over a quarter of production. While most Americans invest in the stock market,the Chinese allocate capital to real estate.

Watch here: https://www.youtube.com/embed/6woLkxmdKHI?feature=oembed

China is also seeing less foreign direct investments as tensions with western countries like the United States drop. The most recent data shows that China’s FDI has crashed o the lowest level in over 25 years. FDI dropped by 5% in the first eight months of the year.

Most importantly, foreign investors are dumping their holdings of Chinese stocks. In a note, analysts at Morgan Stanley warned that exits have totaled over $25 billion, an unprecedented level. The analysts warned against buying the dip in Chinese equities.

China A50 index forecast

China A50 index chart by TradingView

The daily chart shows that the China A50 index has been in a freefall in the past few months. It recently dropped below the key support level at 12,245, the lowest swing on June 1st. This price was also on the lower side of the descending triangle pattern.

China A50 index has also collapsed below the 50-day and 100-day exponential moving averages (EMA). The Relative Strength Index (RSI) has plunged to the oversold level. 

Therefore, the outlook for China A50 – and the Shanghai index – is bearish as risks rise. If this happens, the next key target for the A50 index is 11,140, the lowest level in November last year.

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