China deleverages while the sun shines

China’s regulators are fixing the roof while the sun is shining. With the economy in full rebound from the second-quarter Covid recession, Beijing has warned fintech and property companies to raise more equity and pay down debt.

That’s good news for China’s financial system but mixed news for some of this year’s best-performing stocks, including food-delivery service Methuan and smartphone maker Xiaomi. Financial stocks, by contrast, turned in their best relative performance of 2020 during the past month.

Reduced leverage in corporate balance sheets is likely to restrain China’s world-beating equity market rally. A US dollar proxy for China’s CSI 300 Index, the ETF ASHR has gained 45% during the past year including reinvested dividends, while the S&P 500 returned 20%. Deleveraging is good for the Chinese economy in the long term, but it puts a drag on equity price gains in the short run.