China Stocks Breach Key Level, More Losses Seen

China’s benchmark Shanghai Composite Index broke below a key support level on Wednesday, touching its lowest point in more than three and a half years, and market watchers told CNBC mainland stocks are set to suffer further losses in the coming weeks.

A local investor watches the share-prices index display at a stock brokerage in Shanghai.
Liu Jin | AFP | Getty Images
A local investor watches the share-prices index display at a stock brokerage in Shanghai.

The index , which fell 1.2 percent to close at 2,004.2, briefly traded below the 2,000 support level, but managed to close above it just before the end of the day.

“The Shanghai Composite has been a global equity underperformer for many months and years, and the move below 2,000 is yet another nail in the bearish coffin … this is a psychological level and is meaningful,” Dhiren Sarin, chief technical strategist, Asia-Pacific at Barclays, told CNBC.

Chinese stocks have been in a steady downtrend since May this year, as retail investors — which account for around 80 percent of the turnover at the country’s two stock exchanges in Shanghai and Shenzhen — dump equities in search of less volatile alternatives. Since the start of the year, the Shanghai Composite has fallen 9 percent.

Having briefly dropped below 2,000, the index is expected to decline to 1,960 in the coming week or two — a 2 percent downside from current levels — according to Sarin.

Philip Chan, director at Shenyin Wanguo Securities, agreed that there is risk of further selloff in the market, as confidence among local investors remains low.

“Local fund managers haven’t turned positive on the market because they aren’t convinced about the recovery in the economy yet. They are looking for more data that point to a more fundamental recovery,” Chan said.

Recent numbers out of China have shown that the slowdown in the world’s second largest economy is deeper than initially thought. Factory activity in August, for example, contracted for the 10th month in a row.

The government has announced both monetary and fiscal stimulus for the flagging economy this year, but unlike the foreign investment community, domestic investors have failed to get excited by these announcements, Chan said.

“While western watchers are looking for more stimulus, the people closer to the market are looking at the quality of the stimulus,” he said.

Stimulus measures over the past, including the $150 billion-plus in infrastructure spending and incentives for exporters, have failed to drive a sustainable turnaround in the market. While this did lead to a temporary rally in the first week of September, it soon fizzled out.

Chan, however, said he was not expecting a dramatic downturn in the market, adding that low valuations will provide some support for equities.

Howhow Zhang, head of research at Z-Ben Advisors, believes the leadership transition later this year could be a catalyst for the market.

“When the new regime is elected, it will remove a lot of uncertainty in the system that will make investors more comfortable to assume a little bit more risk,” Zhang said.

—By CNBC’s Ansuya Harjani