(Jan 30): The economic impact of the Wuhan virus is catastrophic. Irrespective of a speedy resolution and development of an effective vaccine, the long-term impacts of the extraordinary quarantine measures will be felt for months to come. The most obvious impact is on Chinese domestic businesses. The next most obvious impact is on Chinese international businesses. The third impact is on the Chinese demand for global goods and this will impact on logistics, supply chains and production.
Assessing these impacts on portfolios is more than just direct China exposure through ETFs and MSCI Index linked holdings. It’s a reassessment of the viability of companies doing business in and with China.
Let’s start with domestic business in China. As an investment these are reached through listings in Shanghai and Shenzhen. The food and entertainment industry are the first major domestic casualty. This is more than the initial damage created by the cancellation of dinners and entertainment associated with the Spring Festival period. This in itself is a massive economic hit but the continuing impact of restrictions on public events will ensure the damage continues. Of course, this flows down the supply chain with reduced demand for everything from fresh noodles and vegetables to the entertainment support industry.
The domestic Chinese visitor economy is larger than the international tourism economy. The proposed prolonged ban on travel and public gatherings will hit every Chinese tourist attraction from the Terracotta warriors to Shanghai Disneyland.
Once the travel bans are lifted, we cannot expect to see an instant return to the routine of previous life. Despite an official ‘all clear’ many people will remain cautious and it will take time for life to return to normal.
The impact on international travel has two aspects. The first is the loss of revenue for airlines and associated services from Chinese who intended to travel overseas during the Spring Festival. This is the busiest time if the year for international travel, but the normal outflow of Chinese on international travel is sufficient to maintain an entire industry. It will take time for this normal travel to resume. Just as importantly, it will take even longer for the flow of international tourists to return to China. This impacts not just on the airline industry and all its associated suppliers, but on the hotel, accommodation and tourism industry that rely on these international tourists.
Tourism is so heavily entwined with economic prosperity that any slowdown in this sector has a massive flow-on effect across the economy. So many businesses and suppliers are dependent upon income generated by tourism.
Stepping outside of the domestic impact on the Chinese economy reveals a substantial impact of other economies. Chinese tourism and international students are just two of these areas. In some countries these two areas are amongst the top two or three imports from China and are vital underpinnings of economic prosperity. And it’s not just the small economies that have this level of dependence. Tourism and international students are the second and third largest export earners for the Australian economy. Already the reduction in travel numbers, the increase in hotel booking cancellations and the delay in returning students is having an impact on these industries with thousands of cancellations.
China will face a massive reconstruction effort when this virus alert ends. How this reconstruction is framed, and financed, will offer investment opportunities. Until then the investment and business outlook is grim. The rug has been pulled from under the Shanghai Index uptrend. The index chart gives us some idea of the constraints on this grim outlook.
The only way to assess the potential downside targets is to use a monthly chart of the Shanghai Index. For comparison it’s useful to note that during the SARS epidemic the Shanghai market actually rose for the most the period February to July 2003. However, the reaction to the Wuhan virus seems stronger.
The first support level is near 2850. On the daily chart this is the lower edge of the prolonged trading band that has prevailed from May 2019 until December 2019. On the monthly chart this level has been less well defined as a support level.
A fall below this level has an historical support target near 2420. This acted as a resistance level during 2012. It was a support point in 2010 and again most recently in January 2019. A fall to this level would reflect a significant impact on the Chinese economy.
A more severe impact may see the Shanghai Index test the long-term support level near 2000. The index tested this level several times between 2012 and 2014. This is near to the lows of the market collapse in 2008.
The most bullish outcome would be for the index to successfully test support near 2850. However, as trading has been suspended for the Spring Festival and for additional days there will be a lot of pent-up unsatisfied selling pressure so the index may move quickly, but temporarily below the 2850 level.
Daryl Guppy is an international financial technical analysis expert and special consultant to Axicorp. He has provided weekly Shanghai Index analysis for mainland Chinese media for more than a decade. Guppy appears regularly on CNBC Asia and is known as "The Chart Man". He is a national board member of the Australia China Business Council.
