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Nomura Turns ‘Bearish’ on China Stocks on Inflation

Nomura Holdings Inc. is turning “bearish” on China’s yuan-denominated shares, saying that the government may order price controls and “more draconian’” measures to curb accelerating inflation.

“The likelihood of a re-introduction of price controls on food is growing,” Sean Darby, a Hong Kong-based strategist at Nomura, which was ranked first in China research by Institutional Investor magazine in its All-China Research Team poll this year, said in a report today. “The recent run-up in agriculture prices worldwide and signs of hoarding appear to have pushed the authorities to reconsider draconian measures.”

The Shanghai Composite Index plunged 4 percent yesterday, contributing to the steepest loss for a three-day period since September 2009, on speculation policy makers may raise interest rates and introduce measures to control rising food prices. The stocks measure dropped 1.9 percent to 2,838.86 today, after Premier Wen Jiabao said on state television the cabinet is drafting measures to counter overly rapid price gains.

“Command style economic principles generally mean much lower multiples over time on the sector and stocks,” said Darby, who had a “bullish” rating on China’s A-shares since June 23. The Shanghai measure has gained 13 percent since then.

China in January 2008 temporarily froze prices for oil products, natural gas and electricity, as well as daily goods and school and transportation fees, to counter inflation that surged to the fastest pace in more than a decade.

Darby said China’s “underground economy,” which may represent up to 10 percent of gross domestic product, isn’t dependent on monetary support and may see “little impact” from policy tightening.

Price Controls

The central bank raised interest rates last month for the first time in three years and this month increased lenders’ reserve requirements as cash from October’s larger-than-forecast $27.1 billion trade surplus threatened to add to the risk of asset bubbles and accelerating inflation.

Wen’s comments at a Guangzhou, Guangdong, supermarket were broadcast on state television. He didn’t elaborate, beyond urging local governments to ensure market supply and order. China will introduce measures to control rising food prices, including limits on how much products may be sold for and subsidies, the China Securities Journal reported yesterday, citing an unidentified person. Corn prices in China jumped to a record yesterday while rice reached an all-time high.

The Shanghai Composite has fallen 13 percent this year after the government raised bank reserve requirements and curbed lending growth to cool the economy. Stocks on the measure trade at an average 19.2 times reported earnings, compared with 26.4 times at the beginning of the year, according to weekly data compiled by Bloomberg.

Borrowing Costs

China’s consumer prices jumped 4.4 percent in October, the fastest pace in two years, and more than the 4 percent median forecast in a Bloomberg News survey of 28 economists. The government’s full-year inflation target is 3 percent.

The People’s Bank of China boosted its benchmark one-year lending rate on Oct. 19 by a quarter of a percentage point to 5.56 percent, the first increase since 2007.

The central bank may raise rates due to sustained inflationary pressure, the Beijing-based China Securities newspaper said in today’s edition. China may increase borrowing costs for a second time this year as soon as Nov. 19, the newspaper said, citing an unidentified analyst.

China will likely experience abnormally low temperatures this winter because of the La Nina weather pattern, the official Xinhua News Agency said in August. ‘

“The difficulty for investors is that unpredictable weather during winter may lead to shortages as was seen in 2009,” Nomura’s Darby said. “This may mean more draconian measures than investors are discounting.”

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