Why the China Crash is Bad News for Manufacturers

NEW YORK (TheStreet) -- While analysts anticipate a quick rebound from the global correction triggered by Chinese equity markets, manufacturers will be grappling with challenges in the world's second-largest economy for much longer.

Short-term volatility in the Shanghai Composite Index, exacerbated by Beijing's maladroit currency manipulations, is just the tip of the iceberg: The larger narrative signaled by the crash is the shift in China's economy away from international asset investment and toward domestic consumption.

"There's going to be less emphasis on heavy machinery, mining, industrials," Greg Lesko, a portfolio manager at Deltec Asset Management, said in an interview, "so those companies are going to face longer-term resistance."

"We're seeing difficulties in iron ore with players like Vale (VALE) and BHP Billiton (BBL)," he added.

Brazilian metal maker Vale posted disappointing second-quarter earnings: Margins on EBITDA fell to 31.8% from 41.5% in the year-over-year amid a steep drop in iron-ore demand from China. Prices for the commodity are almost entirely determined by the needs of the Chinese market.

A slowdown in the mining and industrial space could also spell trouble for blue-chip U.S. companies like General Electric  (GE) , Caterpillar (CAT) and Cummins (CMI), which have significant sales in China.

GE announced yesterday that it would close a facility in Lufkin, Texas, cutting 250 jobs in the process, as worldwide demand for drilling equipment, particularly in China, waned. The country "remains a challenge with slow tenders," GE CFO Jeff Bornstein said during the company's second-quarter earnings call.

Caterpillar, whose sales are widely used on Wall Street as a measuring stick for China's economy, also had a lackluster second quarter, with profits falling 29% and revenues down 13.5% from the comparable period a year ago.

The company blamed "severe weakness in mining" for the downturn and said "construction-related sales in China and Brazil are lower" in its second-quarter press release.

Industrials aren't the only sector to watch out for, however.

"The country is cracking down on conspicuous consumption for political reasons," Lesko said, "which is having a measurable impact on the companies that sell there. It's affecting watches, cognac, all kinds of luxury goods."

While analysts still see China as fertile territory for long-term investment, overall sentiment about the country continues to cool.

"Though not growing at the government-promoted 7% rate, Chinese gross domestic product is still likely growing in low to mid-single digits," " equity researchers at Argus wrote in a recent note.

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