China Stocks Rebound May Not Last

Gene Linn  |

Most of the Asian markets closed lower on Wednesday but magnitude of the downfall was limited. Hang Seng Index dropped as much as 211-point intraday but managed to bounce back quite strongly after approaching the technical resistance of 22,500. The index closed 16 points higher at 22,747 with a turnover of HK$60bn.

I am afraid today’s performance had no indication on the future movement. It is a news driven market, in the absence of bad news, I expect the market would be bounded within a narrow range with thin volume in the next 1-2 weeks.

I have been studying Chinese stocks for over 10 years now and was in the dark in the first few years until a wise man told me this: “Always look at politics first in China ”.

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The coal sector has outperformed the market so far in 2011 which has risen by 2% YTD. The best performer is Yanzhou Coal (1171.HK) recording a YTD gain of 27%. Many analysts are still bullish on the sector as they diagnose the supply and demand situation and conclude that coal prices should have more upside. The analysis is impeccable and the logic is flawless but I do not believe in the conclusion, let me explain. For readers trying to understand China , it may not be as difficult as it seems, pretend yourself to be the Chinese leader and look at the situation that way.

For the voracious readers, you might have recently read about electricity supply shortage in some provinces and cities forcing factories and commercial activities to close down early. I do not think there is any supply bottleneck, this is a way the power generators protesting against the government for keeping tariff low in order to contain the rising inflation. I understand that some power generators are actually loss-making due to the rising coal price.

Electricity tariffs have been kept at artificially low levels long enough, it is now time for other sector to take up the so-called “social responsibility”. There are two obvious options: (i) allowing electricity tariffs to rise but unlikely to be substantial as it will hurt the lower-income group, (ii) lower coal prices by administrative measures. I think the likely outcome will be a combination of both.

Therefore, instead of betting your money on coal producers, may be it makes more sense to bet your money on power generators. In fact, the power sector has already risen by 1% in the past month, comparing with a 5.7% decline in the broad market. End

Benny Wong, head of research at a Chinese company in Hong Kong, continues his exclusive commentary for Equities this week.

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