Cheap markets should not be bought

China vs. US Markets: A Growing Gap

A recent comparison between the Chinese and US stock markets reveals an interesting trend: Chinese stocks are getting significantly cheaper compared to their US counterparts. In fact, China is currently valued at just 40% of the US markets in terms of price-to-earnings (P/E) ratio. This is a drastic change from 2006-2008, when China and the US were valued similarly. Over time, Chinese stock prices have dropped substantially, causing this gap in valuations.

The Fall of China’s Price-to-Earnings Ratio

In the past, China’s P/E ratio was almost on par with the US, but over the years, it has slipped significantly. The forward P/E ratio of China is now at 0.4, meaning Chinese stocks are priced very cheaply compared to the US market. For value investors, this may seem like an opportunity to buy China on the basis that cheaper stocks are often seen as attractive. However, caution is needed because the low valuation may reflect deeper issues within the market or economy.

Should You Buy Cheap?

While low prices can be tempting, it’s important to consider why the prices have fallen in the first place. A momentum-based approach would suggest staying away from falling markets because the trend might continue downward. Just because something is cheap doesn’t mean it’s a good buy. In fact, a P/E ratio of 0.4 could fall further to 0.32 or even lower, meaning investors could face a significant loss on their capital if the market continues to decline.

Global Factors Impacting China’s Markets

There are several global factors that could be causing Chinese stocks to decline. One reason is the perception of the US as a more stable and dominant global power, which may lead foreign investors to favor the US over China. Additionally, political factors, such as the potential return of Donald Trump in the next US election, could impact Chinese markets. If Trump were to win, there is a strong possibility that Chinese goods would face additional restrictions in the US, further hurting China’s economy.

Cheap Stocks Aren’t Always a Buy Signal

A stock or market being “cheap” doesn’t always mean it’s a good time to invest. Many investors have experienced situations where they bought a stock they thought was undervalued, only to see it drop even further. The stock became cheaper, then halved again, leaving them questioning their decision. This is a common scenario in the market, and it shows that buying just because something is cheap is not always the best strategy.

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