Marketplace

• Listen to this Story
• E-mail
• Print

TESS VIGELAND: It's time once again for our economics editor Chris Farrell to help you sort out what's smart, what's stupid and what's the Straight Story. And Chris, as you are well aware, the Shanghai stock market index plunged eight percent this past Monday.

CHRIS FARRELL: Oh, yeah. I am well aware of that.

VIGELAND: And, you know, at that time, you told me it was a pretty big deal. Now, really? It seemed to me the market bounced back the next day. Now, there's kind of a deja vu feel to this.

FARRELL: I had a feeling this was coming.

VIGELAND: Uh-huh. Back in February, the market fell sharply as well, you said that was a big deal.

FARRELL: I believe I actually said, it's the epicenter of risk in the global economy.

VIGELAND: That's exactly what you said, yes. But then, too, the market bounced back into record territory.

FARRELL: You're right, but there is no question that China stock market is overheated. It has nearly doubled in the past year alone. And it's all domestic, too, since the market is essentially closed to foreigners. It looks like a bubble to me. So, here's the straight story. I don't know the timing, but bubbles eventually pop.

VIGELAND: So why does it keep bouncing back?

FARRELL: You know, one of the problems with bubbles is even when we know that it's going on, it's very difficult to get the timing, what's gonna be the event that changes investor's minds. I mean think about the U.S. real estate market.

VIGELAND: Yeah, we heard for, you know, a couple of years, that that bubble was gonna pop.

FARRELL: Absolutely, and Robert Shiller that book, Irrational Exuberance, he reissued it, came out, talked about the real estate market, and it kept going. So now you have the Chinese market and you have all this cash, remember 40 percent savings rate. And you have a new middle-class, and they're thinking, hey, I can go on a stock market and I can speculate, I can have, put money in, I can take money out, and maybe I, too, can be rich. I don't know how long it's going to go on, but I am confident that it will burst.

VIGELAND: All right. Well, if the market does go pop, as you say, how worried should the rest of us be?

FARRELL: I would be worried. I'm in a camp that believes China is incredibly important to the world economy. The reason why I think it will have an impact is not because it's going to expose weakness in the Chinese economy, it's going to expose weakness in the Chinese financial system. And if you have investors, all of the sudden, realizing that the greater fool theory no longer works, that you can't find a fool to sell and overprice security, too, except for, you're now the fool, and then they start panicking, and then you rip a thunder. The sort of gentleman's agreement that we're not gonna look too closely at the Chinese financial system. That's why, I think, it's a real concern.

VIGELAND: Well and that's certainly not kind of what we've been hearing about the Chinese economy, which is that it's been booming and that they're buying up all the world's oil and all the world's steel and copper, and that things are going great gangbusters there.

FARRELL: Right, and all that is true. China has joined the world economic system at an incredible pace. When the bubble bursts, a lot of Chinese investors are going to lose money.

VIGELAND: Well, you talk about Chinese investors, what about investors here in the U.S. who, you know, I think a lot of people have gotten into international funds.

FARRELL: Yeah.

VIGELAND: Because of what they've seen going on in China and, of course, other parts of the world, India, among them. But, you know, it's really prompted a lot of people to say, hey, you know, let me put my money somewhere where I'm seeing huge returns for a lot of other people. Should we be back off a bit at this point?

FARRELL: If your investment, and you've been investing in Asia as part of a diversified portfolio...

VIGELAND: Mm-hmm.

FARRELL: ...you know, I would stay. If you've been sort of on the sidelines and now all of a sudden, you go, you know, I gonna get on Asia. This has been doing really, really well and I just don't think the U.S. is gonna do that well, I got to get in to this market. I got to find me some mutual funds.

VIGELAND: Yeah.

FARRELL: Or I got to find me an ETF.

VIGELAND: Yeah.

FARRELL: I would say, hey, forget it, slow down.

VIGELAND: Well, you just popped our bubble.

FARRELL: Exactly. Because then, what you're doing is you're putting yourself - at enormous financial risk. So, short-term, I would be extremely concerned, but as part of a long term diversified portfolio, I think for most people, exposure to the Asian economy, is extremely important, recognizing that there are gonna be some wild rides on that roller coaster.

VIGELAND: All right. The straight story from our man Chris Farrell. Chris, we're always happy to take a wild ride with you.

FARRELL: Thanks a lot, Tess.