Chinese stocks have undergone a sharp correction this month, as investors sold off shares on concerns that Chinese regulators disapproved of recent rises in bank lending and property prices and could fine-tune policies to avert asset bubbles, hurting equities in the process.
In fact, UBS Research's China strategist John Tang wrote in a report that a further correction was likely over the next 30 days.
"We argue that the market needs to factor in more short-term regulatory risks, and the coming [corporate] interim reports might have a bigger impact on the index than previously anticipated," Tang wrote.
He added, however, that the correction may present "a better entry point likely for the bull market into 2010."
The Shanghai Composite tumbled 4.3% Wednesday to end at 2,785.58. That was nearly 20% lower than its 52-week closing high of 3,471.44 on Aug. 4 -- a level of correction that is widely recognized as a bear market.
In Thursday's trading, though, the Shanghai Composite closed up 4.5% at 2,911.58, highlighting the volatility in the mainland's benchmark index.
Commodity and banking shares were broadly higher, with Zhongjin Gold Co. /quotes/comstock/28c!e:600489 (CN:600489 51.70, +0.09, +0.17%) up 2.2%, Aluminum Corp. of China /quotes/comstock/13*!ach/quotes/nls/ach (ACH 29.19, +1.12, +3.99%) 0.7% higher, and Bank of China /quotes/comstock/11i!bachy (BACH.Y 12.35, +0.31, +2.58%) rising 0.8% in Shanghai.
But the Shanghai index still has a ways to climb before it returns to the Aug. 4 high.
A weak set of economic indicators for July laid the foundation for the latest market correction, challenging the Shanghai Composite's nearly doubling in value in the first seven months of the year.
Official figures released earlier this week also showed foreign direct investment into China also dropped more than 35% in July from the year-earlier period.
Meanwhile, data released earlier this month also showed a slowdown in the growth rates for industrial production and investments in urban fixed assets.
Then a sharp slump in bank lending in July -- following record loan disbursals in the first half of 2009 -- led to worries that a slowdown in credit could affect liquidity, a crucial factor behind the previously strong market performance.
But some analysts say the worries may have been overplayed.
"A bull market typically peaks in the middle of tightening, not at the end of easing," Morgan Stanley analysts led by Jerry Lou wrote in a report Thursday.
"Although an asset bubble is less likely now, our 12-month base case view remains bullish, as liquidity conditions are far from [being] too restrictive to disrupt the established economic recovery in a stabilized global economy context," they said.
"In the near term, poor visibility in policy-exits globally will likely create uncertainties in cost of capital that could shake up asset prices," they said, referring to existing concerns that global monetary authorities could reverse a policy stance that favored low interest rates and high liquidity.
"We would be buying these deep corrections," the Morgan Stanley analysts said.
In other market action Thursday, Hong Kong's Hang Seng Index rose 2.2%, Japan's Nikkei 225 Average closed up 1.8%, Australia's S&P/ASX 200 was little changed, South Korea's Kospi advanced 2%, and India's Sensex rose 1.7% in morning trade.
Varahabhotla Phani Kumar is a reporter in MarketWatch's Hong Kong bureau.
