MercoPress. South Atlantic News Agency

Warnings of “speculation bubble” in Shanghai's stock market

China's booming A-share market could turn into a bubble if speculation among exuberant domestic retail investors is not curbed, Goldman Sachs warned Thursday, as the Shanghai Composite Index hit yet another intraday record high.

"Market trading statistics, liquidity indicators, and anecdotal evidence all point to optimistic, if not exuberant, sentiment in the domestic market," said Thomas Deng, analyst at Goldman Sachs, in a Thursday research report. "As speculation continues to be nurtured among domestic retail investors, we see genuine risks of market euphoria materializing if regulators fail to step up their efforts to contain market irregularities," Deng said. Other financial firms, including UBS Securities, as well as Governor Zhou Xiaochuan of the People's Bank of China have also expressed concern in recent days about the possibility of a bubble forming in the stock market. "A-shares are at the beginning of a bubble, and could go even higher before the eventual reversal," said Henry Ho, strategist at UBS Investment Research in a May 7 research report. "Liquidity and sentiment seem irrationally high, but does not appear to abate," Ho said. "At this stage, we believe the self-correcting mechanism of stock market is also not able to reverse the overpricing." The Shanghai Composite Index, which tracks shares listed on the larger of China's two stock exchanges, set an intraday record of 4,072.14 on Thursday, before scaling back to a record close of 4,049.70, rising 0.9%. The benchmark crossed above 4,000 for the first time Wednesday. Trading turnover in Shanghai and Shenzhen reached 49 billion US dollars Thursday. Profit of Chinese companies listed in the A market increased by 82% in the first quarter of 2007 compared with the parallel quarter of 2006, Goldman Sachs says. The B market rose 181% in the last year. Another factor behind the rise in stocks is that Beijing imposed negative real interest rates and increased property tax, which sent Chinese households to the stock market. China bans banks from offering higher interest on deposits than the central bank offers, and that's 2.79%. Chinese inflation accelerated to 3.3% in March 2007, its highest point in two years, which means that interest on deposits is negative, in real terms. The result is record influx to the stock exchange. Earlier this week the governor of the People's Bank of China, Zhou Xiaochuan voiced worry about rising share prices. On May 8, Chinese households opened 385,000 new accounts with brokers, the biggest increase since the Chinese securities authority began tracking that datum in June 2005. On Feb. 27, the Shanghai Composite tumbled nearly 9% on fears that the Chinese government would intervene to slow down the market. The move sparked a sell-off on markets around the world. Despite its February plunge, the index recovered its losses and is currently up a whopping 51.3% year-to-date, making China the best performing stock market in the world.