This evolving issue demands attention from anyone engaged with Chinese businesses. While it may seem distant for many, its repercussions are extensive and cannot be overlooked.
The US has long been entangled in a covert economic battle with China, which has caused considerable inconvenience for businesses. Yet, the situation has now undergone a significant shift.
Bloomberg reports that US lawmakers have introduced a bill to bar US mutual funds from investing in indexes that track Chinese stocks. This is not the same as funds retreating from active direct investment in the Chinese market as a matter of choice, which was what had happened with my US-based China fund.
The legislation targets mutual funds that invest in indexes that primarily track Chinese stocks rather than those that only include some Chinese companies. However, the lawmakers left it to the Securities and Exchange Commission to write rules determining which products are impacted.
This will impact China-specific funds and has a much broader reach. In the portfolio of share funds from Emerging Markets and Asia (ex-Japan), Chinese stocks usually comprise the largest component, often between 25% and 35%. That’s more than just “some Chinese companies”.
Excluding Chinese shares from a share fund portfolio means excluding the world’s second-largest economy after the US. This is not a “balanced” fund exposure because it makes global share indices more US-oriented. This arguably introduces a higher level of risk when the US share market looks extremely overvalued by historical standards.
See also: Trump's tariffs hurt more than just China
This has a broader impact on more than US funds. Many Asian stock funds are based on Asian asset allocation indices. Based on such indices, global share funds allocate some of their assets to China-listed companies. If the US index providers are forced to exclude Chinese shares, the basis of portfolio allocation will be skewed for political reasons.
Those using FTSE (Financial Times Stock Exchange 100 Index) indices are not protected. The FTSE Group sells its portfolio indices to managers of US funds, and it could likely surrender to pressure to stop including Chinese shares in them.
The passage of a bill in the US is probable due to the prevalent Sinophobia in US politics. Consequently, the Securities and Exchange Commission might declare any fund or index heavily invested in Chinese companies unlawful. This decision would promptly devalue these funds, impacting investors negatively. Investors reliant on these funds to access the Chinese market are hit hardest. They face the abrupt loss of investments in major players like Tencent, Alibaba, PetroChina, Bank of China, China Construction Bank, and other Chinese multinational corporations, effectively cutting off these investment avenues.
See also: Buying into China stimulus Is ‘painful trade’, Lombard Odier says
The escalating economic assault on China suggests a potential next move: Banning direct investment in Chinese companies through Hong Kong listings or using the cross-connect facility to invest in Shanghai or Shenzhen-listed companies. There is no longer any doubt about America’s desire to block China’s economic development by starving it of investment capital and semiconductor chips, applying tariffs and denying China the ability to export anything other than cheap tat.
Investors and businesses connected to China must confront this economic attack head-on, as it directly impairs their operations. Anticipating the next target is crucial for mitigating investment and business risks.
Technical outlook for the Shanghai market
The Shanghai Index coyly pushed through resistance near 3,080 and then retreated. This week’s retreat is more substantial than last week’s, but it still looks to be temporary and part of the expected consolidation behaviour near this level. The rebound from the upper edge of the long-term Guppy Multiple Moving Average (GMMA) is bullish.
The behaviour around the resistance level is the key point of interest. Consolidation and a retreat are expected. How far the retreat goes is critical. If the resistance level is weak, the market will quickly punch through it. This has not happened, so we have to assume this will be a more significant feature of market behaviour.
The 3,080 level has acted as a support level in the downtrend and then as a resistance level in a downtrend rebound. This is the second time the 3,080 level has been tested as a resistance feature. The first time was in November 2023.
For more stories about where money flows, click here for Capital Section
This persistence suggests the index test of 3,080 will quickly exhaust itself and develop a new pullback that tests lower support features. This is what is developing.
This is in the short-term GMMA indicator. The dip has moved below the lower edge of this group. For the first time in this breakout rally, the index activity has dipped below the lower edges of the short-term group of averages, which suggests a reduced probability that the uptrend will continue.
The behaviour of the long-term GMMA is critical in determining if this is just a pullback or the beginning of a change in trend. The lack of compression in the long-term GMMA during the retreat shows investors remain bullish. They are actively buying because they believe the retreat is a temporary blip in an otherwise strong uptrend.
Any move towards compression in the long-term group of averages suggests that investors are taking profits and shifting to selling rather than buying. This indicates a low level of support for any retreat.
The behaviour of the index around the 3080 level is critical in understanding how the index trend will develop. Last week, the balance of probability favoured a renewed breakout above 3,080 with an upside target near 3,240. This target is calculated by taking the width of the trading band and projecting it upwards. This trading band calculation successfully projected the index recovery target at 2,920 and again at 3,080.
This bullish confidence is eroded when the index moves below the lower edge of the short-term GMMA.
Daryl Guppy is an international financial technical analysis expert. He has provided weekly Shanghai Index analysis for mainland Chinese media for two decades. Guppy appears regularly on CNBC Asia and is known as “The Chart Man”. He is a former national board member of the Australia-China Business Council. The writer owns China stock and index ETFs
