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When a bear starts eyeing you up, be very concerned

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When one of the financial world's most successful bears starts casting his eye over a market looking for ways to sell it short, you might think the bulls would begin to get a bit nervous.

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You might think that, but when the market in question is China, you would be wrong.

The majority of investors think the mainland is poised on the threshold of multi-year bull trend. Few if any have been put off their view by an article in The New York Times last week describing how professional short-seller James Chanos believes China is one enormous bubble waiting to burst.

Chanos has a track record that commands attention. As manager of the multi-billion US dollar hedge fund Kynikos Associates, he specialises in spotting assets that are fundamentally overpriced and selling them short in anticipation of a big correction. Some of his more famous bear calls over the last 10 years include fraudulent energy company Enron, scandal-plagued conglomerate Tyco International, and much of Britain's banking sector.

Now he thinks China is heading for a fall. According to The New York Times, he believes massive over-investment fuelled by the recent credit explosion is creating a huge excess of industrial capacity and inflating a real estate bubble equal to 'Dubai times 1,000 - or worse'.

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This is hardly a popular view, and in the last few days Chanos has attracted howls of derision from China bulls, who typically argue that there can be no bubble on the mainland because levels of leverage remain low. New York Times columnist Thomas Friedman even devoted a whole article this week to ridiculing Chanos, offering him 'a simple rule of investment that has always served me well: Never short a country with US$2 trillion in foreign currency reserves.'

No doubt Friedman's tip raised some appreciative laughs, but his advice is absurd. China was sitting on US$1.5 trillion of foreign reserves at the end of October 2007, but that didn't stop the domestic stock market from crashing by 72 per cent over the next 12 months.

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