The Economic Psychology of Stock Market Bubbles in China

Abstract

The Chinese stock markets were extremely volatile during the period 2005-08. The Shanghai Stock Exchange (SSE) Composite Index increased more than sixfold from 1,012 in 2005 to 6,124 by the end of 2007. It then declined continuously to reach a low of 1,929 on 17 September 2008, or a drop of 70 per cent from its peak in less than 10 months. Although the market downturn may have been affected by the financial crisis in the United States and the rest of the world, the extreme fluctuations of stock prices signify a big market bubble, and the burst of that bubble must be explained by intrinsic characteristics or the economic psychology of Chinese investors. Based on a detailed market data analysis, this paper attributes the development of the stock market bubble to three key psychological factors: 'greed', 'envy' and 'speculation', and the burst of the bubble to three contrasting factors: 'fear', 'lack of confidence' and 'disappointment'. It concludes that only after Chinese companies become really commercialised and profitable and investors become rational can the stock markets become stable without extreme volatility as seen in the past. Government policies can play a role in soothing market volatility detrimental to shareholders and the wider economy, but investors should not depend on government for making their own investment decisions. Copyright 2009 The Authors. Journal compilation 2009 Blackwell Publishing Ltd.

Time-varying correlation between oil and stock market volatilities: Evidence from oil-importing and oil-exporting countries

“…This is a rather interesting finding, given that during 2006-2007 oil volatility is very low and one would expect the same for the Chinese volatility, given the incredible growth that the Chinese economy was experiencing then. On the contrary the period 2006-2007 is very volatile for the SSE index mainly due to the valuation methodology of Chinese stock market, which was integrated with international standards for the first time but also due to a split share structure reform and the sustainable growth of listed companies (Yao and Luo, 2009;Cheng and Li, 2014). The empirical findings by Broadstock et al (2012) demonstrate substantially similar fluctuations in the correlation between oil price and stock market returns for this period.…”

Stock Market Crash in Bangladesh: The Moneymaking Psychology of Domestic Investors

“…Yao and Luo [35] states that market bubbles have some or all of the characteristics such as share prices rise sharply and continuously for a certain period of time; P/E ratios of companies become unusually high; share prices decline sharply after peaking; the gap between the peak and the low is unusually large (more than 50 percent); the time lag between the peak and the lowest is short ( less than one year); it takes a long time (more than two years) to recover to the previous peak.…”

“…Yao and Luo [35] state that there are many economic factors, which influence demand and supply of stocks, and ultimately cause price fluctuations. When companies, thanks to good macroeconomic conditions, make more profits and pay more dividends, investors find it profitable to buy more shares.…”

“…On the contrary, during poor macroeconomic conditions, when companies are not in a position to make sufficient profit, and pay no dividend, or pay very small dividend, investors lose their interest of investing in shares, and also influence the existing shareholders to sell of their holdings and force prices to down. Share prices can also fluctuate due to some short-term economic shocks such as changes in interest rates, exchange rates, inflation, trade balances, and employment rate [35,34].…”

“…However, the development of Bangladesh stock market bubble and its subsequent bursting cannot be fully explained by economic theories such as the capital asset pricing model (CAPM), external and internal economic factors, and regulatory initiatives; rather there must have been some intrinsic characteristics. Yao and Luo [35] in their study suggested three moneymaking psychological factors such as greed, envy, and speculation to explain the stock market bubble in China that increased the Shanghai Stock Exchange (SSE) index five folds. Similarly, they explained the burst of the bubble through three opposite psychological factors such as fear, lack of confidence, and disappointment of investors.…”