Caution: new high in Shanghai Stock Exchange Composite Index

December 30th, 2006

Share |

Today, we just looked at the chart of the Shanghai Stock Exchange (SSE) composite index and found that it had hit a new high on the last trading day of 2006:

Shanghai Stock Exchange Composite Index- last trading day of 2006

With the vast pool of foreign money pouring into China (see Why is China printing so much money? and Speculative fervour in the Chinese stock market), this is expected.

An example of such foreign money joining in the wild party of raging liquidity in the Chinese stock market is the AMP China Growth Fund. That fund listed on the Australian Stock Exchange (ASX code: AGF) on the 22nd Dec 2006. Within 4 short trading days, the price of AGF surged 20% upwards to $1.20 from its issue price of $1.00. Should we sink our money into AGF? Let?s take a look at its 4 days of trading history?on its first trading day, the volume of trade for that stock was 5.3 million. On the second day, it was down by half to 2.7 million. On the third and fourth day, it was down to 1.8 million and 1.4 million respectively. What do you see? As the stock price surged upward, the quantity of volume traded declined significantly. It looks to us that the upward momentum for the stock is weakening.

Next, we look at the above-mentioned chart for the SSE. Looking at the technical indicators, we see that the upward momentum is very strong?in fact, too strong for our comfort. Also, the chart is becoming parabolic in shape, almost becoming a vertical line at the end. And here is a number one basic rule of trading: when the chart becomes parabolic to the point of becoming a straight line, it is a classic sign of a bubble about to burst. If you are holding that stock, get out as soon as you can. That is what happened to the gold price in May 2006 before the correctional crash. If you look at the 10-year chart for gold, you will see a parabolically vertical line around that time:

10-year gold chart on final trading day of 2006

Again, we would like to stress that we are not trying to predict an imminent crash in the SSE (and a corresponding crash in the AGF). We are urging the exercise of caution?the party cannot last forever. As with most bubbles, the collapse in price is usually more rapid than its rise.

Tags: , , ,