The Shanghai market collapsed dramatically last week in response to a government announcement in relation to the education coaching industry. The excessive market response was driven in part by the increasing influence of large-scale Western funds invested in China. Many of them lack real China expertise, so the tendency to overreact is understandable. The sell-off, like all market sell-offs, was further amplified by the activity of ETFs, which actively rebalance in response to market movements. This tends to create market over-reactions.

The sell-off has two factors for investors to consider. The first is the opportunity for bargain-hunting. The second relates to sovereign risk.

Bargain-hunters gather when markets get smashed because in this situation, good stocks get taken down along with every other stock. These general market sell-offs are a buying opportunity for some stocks. This week’s rebound in the Shanghai Index has as much to do with bargain-hunting, as it does with the soothing comments from the ViceChairman of the China Securities Regulatory Commission when he hosted a virtual call with global investment banks.

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