This has been an awful year for the Shanghai stock market. Volatile periods of sideways trading have alternated with vertiginous drops, leaving the SSE Composite index down 20 per cent for the year. Stock markets are supposed to react to economic expectations. Is the performance of the SSE predicting a Chinese economic collapse?
Probably not. We normally assume that stock prices represent the market's best estimate of growth prospects, but this is not always the case. It depends on the mix of investment strategies that characterise the market. An efficient and well-functioning market is comprised largely of three types of investment strategies, often in combination, and each has a different role in determining how markets perform and what they tell us.
The first type, speculative strategies, requires information about changes in supply or demand factors that immediately affect prices. Speculators provide liquidity and disseminate information rapidly.