China’s stock market currently exhibits a remarkable surge, yet this rise masks underlying economic troubles. The Chinese economy faces significant challenges, particularly in the real estate sector, which is crumbling under the weight of overwhelming debt. With bank deposit rates lingering below one percent, many investors have turned to the stock market as the last viable option for preserving their capital, creating a substantial and precariously inflated bubble.
The Shanghai Composite Index rose by 7.7 percent in just the past month, marking a staggering 37.6 percent increase from the same period last year. This climb has propelled the index to its highest intraday level since December 2021. In the year to date, it has gained around 15 percent, with the broader CSI 300 index experiencing a similar rise, culminating in a new 37-month high. Together, these indices have collectively added over $1 trillion to market value.
Furthermore, the opening of 1.96 million new A-share accounts in July alone represented a 71 percent surge compared to last year. The issuance of new mutual funds has skyrocketed by 132 percent during the same timeframe. This marks a significant shift in investor behavior, as households that once favored real estate are now directing their savings toward stocks and investments beyond mainland China.
Investors have increasingly pulled funds to Hong Kong, investing $78 billion in shares of Chinese companies thus far in 2025. This figure already accounts for 75 percent of the total from the previous year, and forecasts suggest it could reach a staggering $110 billion by the year’s end.
The driving force behind this stock market rally is largely debt. As of September 2, outstanding margin trades have peaked at a record 2.28 trillion yuan (around $320 billion), surpassing the previous high set in 2015. Margin financing has risen notably, jumping from 1.8 trillion yuan in May and June 2025 to 2.03 trillion yuan by August, marking a 13 percent increase in a matter of months. Short-term borrowing seems rational when current market returns exceed borrowing costs, but it creates an inherently dangerous bubble.
Historically, Chinese investors have preferred real estate for its tangible nature, viewing the stock market with skepticism. Although about 70 percent of stock market activity is driven by market forces, the Chinese Communist Party (CCP) retains a firm grip on the market, ready to intervene if necessary… even stopping trading during downturns. The surge in margin trading acts as a catalyst, allowing average investors to amplify their purchasing power. This buying frenzy leads to inflated stock prices, luring in more buyers, many of whom also utilize margin to invest.
This speculative cycle is further accelerated by fear of missing out. However, beneath this frenzied activity, the economic fundamentals are deteriorating. China is experiencing a marked slowdown, exacerbated by trade frictions with the United States, a decline in foreign direct investment, and diminishing export advantages. Property investment has plummeted by 10.6 percent, marking the steepest decline since records began in 1987, while property sales have dropped by 12.9 percent, and new constructions have fallen by 23 percent. Foreign direct investment trends also show a decline.
China has now entered a deflationary period for the first time since the 1998 Asian Financial Crisis, with consumer prices remaining stagnant and producer prices declining for 34 consecutive months. The GDP deflator is projected to hit –0.2 percent in 2025, compared to a pre-pandemic average of 3.4 percent.
This grim outlook has prompted some foreign hedge funds to retreat from Chinese equities, with one large firm, Bridgewater, recently withdrawing approximately half a trillion dollars. However, other market players, enticed by potential short-term gains, may be tempted to ride the wave of volatility, hoping to sell off before the anticipated crash. While some foreign capital may seek rapid profits, the broader trend reveals a significant outflow of capital.
This shift creates a complex dilemma for policymakers in Beijing. The ultra-low deposit rates have diverted savings away from constructive investments and into speculative stock trading, resulting in malinvestments and distorted capital structures. The rapid rise in margin trading introduces a mismatch between short-term borrowing and long-term equity positions. Attempts to stimulate growth could further inflate the already swelling bubble, while measures designed to cool speculation could inadvertently trigger a crash.
In essence, the current rally offers a misleading sense of security. Underneath lay severe economic challenges… deflation, a property market in crisis, trading tensions with the West, and a faltering economy… making this bubble distinctly more fragile than previous expansions. The systemic risks involved have escalated, painting a troubling picture for the future of China’s economic landscape.
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