Morgan Stanley: “Don’t Buy This Dip”

Chinext Stock Chart

Wall Street firms almost always encourage investors to ‘buy the dip’ whenever stock prices decline. But that advice seems to only apply to US stocks, and not foreign markets. Morgan Stanley recently made an announcement with its analysis of this foreign stock market:

“Our stance on China A shares is that this is probably not a dip to buy. In face, we think the balance of probabilities is that the top for the cycle on Shanghai, Shenzhen and Chinext has now taken place. We remain concerned over four factors: a) increased equity supply, b) continued weak earnings growth int he context of economic deceleration, c) high valuations, and d) very high margin debt to free float market capitalization. Our Shanghai Composite Index EPS forecasts for 2015 and 2016 are significantly lower than consensus (5% vs. 9% for 2015, and 8% vs. 16% for 2016).

“We set a new 12-month Target Price range for Shanghai Composite of 3,250-4,600. This range is -30% to -2% below the current level of the index (4,690 as of June 24 close). Our base case EPS integer forecast for Shanghai for June 2016 is 259 versus consensus’ 279 (7% lower).

“In summary, we project that China’s economy will continue to struggle over the next 12 months as it transitions towards consumption and services-led growth in the face of the legacy of the rapid build-up in leverage in recent years and significant excess capacity in the ‘old economy’ sectors.

It appears that China’s tech-heavy Chinext market is correcting just like the Nasdaq did in 2000 and 2008. Chinese investors realize that stock prices won’t always go up, and stocks need to have good fundamentals (and reasonable prices) to be considered good investments.

Will the Chinese stock market recover from this short-term correction, or does it have farther to fall?

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