HK Monetary Chief Warns Of Bubble

Source: The Business Times, October 29, 2007

He urges investors to act with caution as Hang Seng surges over 40% in 2 mths

HONG Kong’s monetary chief Joseph Yam has added a cautionary voice to a growing chorus of warnings in the city by observers who fear a bubble market has formed as stocks remain at giddy highs.

The Hang Seng Index has surged more than 40 per cent in just two months, reflecting a stellar appetite for China focused firms as China’s markets trade at new highs, and an expectation that mainland investors will soon be able to invest in the city’s market.

Some, however, fear that valuations are overstretched, with an asset bubble forming. And as punters continue to wade into the China boom story, they worry a serious correction could have a potent effect.

The bull run first started gathering pace on the heels of an Aug 20 announcement from Beijing that it would allow mainlanders to invest directly in Hong Kong stocks. This prompted an expectation of a fierce flow of cash from across the border.

In his weekly Viewpoint column on the Hong Kong Monetary Authority’s website, Mr Yam warns of ‘risks ahead’, particularly given the uncertain economic and financial outlooks for both China and the United States.

‘A sharp spike in the delinquency rate of sub-prime mortgages in the US has led to great tension in the money markets of Europe and the US, and a general credit tightening,’ Mr Yam notes.

He warned the possibility of a recession in the US cannot be ruled out, with adverse implications for cities such as Hong Kong.

Mr Yam also points to China’s macro monetary conditions as a cause for concern. With large foreign reserves, cooling down measures have been implemented by the Chinese central bank. At the same time, inflation is climbing to ‘uncomfortable levels’, he stresses.

Although China has announced it will allow residents to invest outside China, this has not yet happened and a heightened demand for stocks has pushed prices higher, ‘causing concerns about the possibility of a stock market bubble’.

Any market adjustment would have serious implications for financial stability in Hong Kong, he notes.

Against this backdrop, he urged Hong Kong to be cautious ‘despite the different and bullish signals that our financial markets are sending us’, Mr Yam says.

‘Irrational exuberance or not, investors should act with caution.’

Corporate governance activist David Webb has also sounded a note of caution, arguing that the mainland stock bubble is sure to burst. When it does, it will ‘certainly take the Hong Kong market down with it, since most of the market capitalisation is now either mainland stocks or stocks with a large component of mainland business’, he says on his website.

‘It would not be at all unreasonable to visit 15,000 or even 12,000 again on the Hang Seng Index, despite the depreciation of the dollar and the time value of money since we were last at those levels,’ he notes.

He says Hong Kong will be able to sustain any bursting of the bubble, ‘and mainland companies will still come here to list’. He urged Hong Kong policy-makers to shift their attention to improving the city’s competitive advantage in the meantime, by beefing up the regulatory framework.