Editors' Pick: Originally published Dec. 28.
China faces a "sudden stop" in its economy in 2016, as the government loses its ability to prop up state-subsidized industries and capital flight prompts a significant devaluation of the country's yuan, according to the analyst who accurately forecast Russia's stock-market crash in 1998.
JP Smith, who worked at Deutsche Bank before leaving last year to start independent research firm Ecstrat, says conditions in China look as ominous as those in the U.S. on the eve of the 2008 financial crisis, and in Korea just before the 1997 Asian crisis. As a result, Chinese stocks face greater downside potential than those of any other global market, he wrote in a Dec. 17 report.
The projection contrasts with the outlooks of many investors and analysts who are betting China's economy is on track for a gentle slowdown. Bank of America predicted in a report this month that the country will undergo a gradual currency devaluation as it shifts to a services-based economy.
Market forces probably will trump Chinese authorities' ability to control the economy and capital flows through official dictates, according to Smith.
"Companies across a number of key industries appear to be on the verge of a liquidity crisis, while the efficacy of repeated monetary and fiscal stimulus measures appears to be diminishing," Smith wrote. "It is clear that the underlying pressure for capital to leave China is likely to increase further over 2016."
A sharp downturn in Chinese stocks would mark a departure from this year, when the nation's equity market held up better than those of counterparts as authorities took steps to prop up share prices. The iShares MSCI China ETF (MCHI) is down 6.3% this year, compared with a decline of 13% for a broader gauge of emerging-market stocks.
Bank of America said in a report that its forecasts for China "suggest a soft landing toward slower growth." The economy will grow by 6.6% in 2016, slightly lower than this year's estimated growth of 6.9% growth, according to the bank.
So far, China has been deploying its foreign reserves to support the yuan, which is pegged to a basket of foreign currencies including the U.S. dollar. According to Trading Economics, China's foreign reserves fell by $87 billion in November to $3.43 trillion, the lowest in almost three years. They're down from $3.99 trillion in June 2014.