Wednesday, 31 October 2007

China Stock Market Valuations - madness or sanity?

Reuters write on the current China stock market frenzy.

Some of the stock valuations are simply way out. It is true that China is a large market with a lot of potential but even so....

This article at least gives some justification for the high prices. Galbraith in his book on the great crash (an excellent read) speaks of similar justifications for the high prices on Wall Street just weeks before the Wall Street Crash of 1929. The same happened with the dot.com crash or 2000.

This is a large 4 page article.

Method in madness of China stock valuations

SHANGHAI (Reuters) - China has the world's largest commercial bank, its biggest aluminum maker, its No. 2 oil firm and its fourth-largest investment bank. It has five of the world's 10 biggest companies, versus three for the United States.

Never mind that outside their home markets, the companies' business operations are dwarfed in size and sophistication by Western and Japanese giants.

Soaring prices on the Shanghai Stock Exchange have propelled listed Chinese firms' capitalizations -- including shares held by government and institutional investors that have not yet become freely traded -- to the top of global tables.

For some investors, particularly foreigners, that's a sign Chinese share prices are ludicrously high.

But with China's economy on track for its fifth consecutive year of double-digit percentage growth, the market is simply looking farther into the future to value stocks, others say. And that future justifies such prices -- except perhaps for resource stocks.

"The current A-share bull run is very similar to what happened previously in Japan, Korea and Taiwan," when those economies and markets took off in the 1980s and 1990s, says Miao Junwei, CEO of ABN AMRO TEDA Fund Management.

Shanghai's stock market is up five-fold since the start of 2006. It is trading at above 40 times projected earnings for this year, dwarfing the S&P 500's <.SPX> 16 times. But it is still well below the 70-plus hit by Taipei at its peak in 1990.


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M&A TO BOOST GROWTH

Acquisitions may spur growth of China's blue chips in the next few years. At home, the government wants to consolidate industries to improve efficiency, and Beijing is encouraging investment abroad as it seeks access to resources and markets.


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In general, fund managers argue stocks related to consumer spending growth may deserve their high valuations. Lower labor costs, first-mover advantages and huge local networks of branches and customers may help these firms beat foreign competition.

Fund managers are most skeptical about valuations in the resources sector. Oil giant PetroChina (0857.HK: Quote, Profile , Research), for example, which last week raised $8.9 billion in a Shanghai share offer, is now the world's second largest oil firm by market value, second only to Exxon Mobil (XOM.N: Quote, Profile , Research).

In contrast to consumer stocks, resource firms' margins are in the long run expected to depend mainly on the cost at which they can obtain their raw material from abroad, while the global commodities markets mean they are unlikely to get away with charging their customers any premium.

"I really don't understand why China's resource firms should command such high premiums to their overseas peers," a senior portfolio manager at a major Chinese house said.

"PetroChina, like its foreign counterparts, sells its crude oil at international market prices and it does not hold any advantage in terms of reserve replacement."


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