Financial contagion (noun): A negative occurrence in a single market, industry, or country that becomes a chain reaction that affects other markets, industries, or countries.

Will troubled Chinese real estate developer China Evergrande Group (OTC: EGRNF) perform the role of “black swan” and trigger financial contagion? By definition, a black swan is a complete surprise. And no one saw the Evergrande crisis coming. Wall Street has been too busy fixating on COVID Delta and the Federal Reserve.

Stocks opened in the green Tuesday but closed mixed, after a volatile trading session. The closing numbers were as follows: The Dow Jones Industrial Average -50.63 (-0.15%); the S&P 500 -3.54 (-0.08%); the NASDAQ +32.49 (+0.22%); and the Russell 2000 +3.98 (+0.18%).

Worries about Evergrande, and the Federal Reserve’s two-day policy-making meeting that ends Wednesday, weighed on stock markets. On Monday, the markets suffered their worst day in months.

After the opening bell Wednesday, the Dow, S&P 500, NASDAQ and Russell 2000 were all trading sharply higher. Global equities were bouncing back as well.

Evergrande calmed financial markets, when it announced Wednesday that an interest payment worth US$36 million on a domestic yuan bond had been settled through negotiations. But the vast conglomerate isn’t out of the woods. Interest worth US$83.5 million on a dollar-denominated bond is due Thursday and it’s unclear what will happen.

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Evergrande is $300 billion in debt and struggling to make interest payments. The company’s ambitious construction projects are ubiquitous in China. But more is at stake than just one real estate developer. Evergrande’s woes have stoked worries that China’s residential and commercial property market, which drives about a third of the country’s economy, could implode.

Investors are hoping that Beijing will step in to save the developer from defaulting. Holding the company’s bonds are several major Chinese, American and European banks; retail investors; and construction suppliers. But a government rescue isn’t a sure thing.

In a burst of Maoist fervor, Beijing has been getting tough lately with its major companies, especially tech giants. In recent months, China’s communist ideologues have been cutting the country’s business tycoons down to size. Even social icons such as billionaire Jack Ma have been feeling the government’s heat.

If Evergrande goes under, the domino effect could tank the global financial markets. You don’t need to own Chinese stocks for your portfolio to be vulnerable.

The shadow network…

China’s endemic lack of transparency makes it hard to gauge how badly the Evergrande debacle could affect China’s financial stability, and by extension the world’s.

China has a large, informal network of lenders such as off-balance sheet operations tied to local banks, insurance companies and a host of others. Many borrowers turn to non-traditional lenders for financing, because borrowing from official lenders is often difficult for small- and medium-sized business, thanks to the tendency of the Chinese banking system to favor state-owned enterprises.

The policy-making mandarins in China’s centralized mercantile economy racked up debt during the coronavirus pandemic (and during previous economic downturns), by trying to stimulate the economy through infrastructure projects, many of them poorly conceived and wasteful. State banks are now plagued by nonperforming loans.

The following graph shows national debt in China related to gross domestic product:

That said, the two-day rebound in global equities from Monday’s steep losses is consistent with the resiliency the stock market has displayed during this pandemic-afflicted year. The long-term outlook for the global economy and corporate earnings remains positive.

Meanwhile, the Fed wants to keep us guessing while gradually getting us accustomed to the idea of tapering. Interchangeable words from the central bank such as “modest” and “moderate” when referencing economic growth punctuates the feeling that we remain in a purgatorial place of “maybe we will and maybe we won’t.” It’s Fed Chief Jerome Powell’s job to be vague.

But the Fed will taper. It’s just a question of when. Then, when Powell & Co. actually begin to pull back, there hopefully will be less of a negative reaction from the markets. Unless the economy, and the stock markets, worsen in the meantime.

While Powell and his minions at the central bank play the delay game, there are solid stocks all over the world functioning without hidden messages.

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John Persinos is the editorial director of Investing Daily. Send your questions or comments to mailbag@investingdaily.com. To subscribe to John’s video channel, click here.