Archive | Macro RSS feed for this section

Don’t Be Shocked By the Crunch (and how to play it)

14 Feb

This January new loans granted in China totaled CNY 738bn. “Not bad” I hear you cry! However, in the context of expectations of CNY 1tr, and a 29% contraction year-on-year there’s clearly something of a liquidity squeeze going on.

The sharp drop in lending has taken M2 growth to 12.4% year-on-year…the lowest pace of growth since 2001. In fact, M1 shrunk this January by 6.87%.  Yes yes yes – there’s the impact of pre-New Year spending, but the 12 month RoC shows growth at 3.1%, the lowest since this data started being collected in 1990. In nominal terms M1 has only increased CNY 813bn over the past 12 months. This is around the same amount as the mid 2000 when China’s economy was significantly smaller than it is today.

There might be rebounds in the coming months, but don’t be fooled – monetary conditions are clearly tighter than most people think. This shocking January data is the antitheses of exactly 3 years ago when Chinese monetary data shocked everyone with the strength of growth that the PBOC unleashed in the face of gridlocked capital markets and industrial activity.

This is clearly going to affect mostly those sectors most dependent on credit, such as real estate development. This is going to have wider knock on effects.

While most people are not heavily invested in China, one should readjust their holdings in anticipation of the fall out. Here’s one idea…

This slowdown is going to impact the fertilizer, agrochemical and petrochemicals sectors. While we all obsess over the monthly WASDE reports, and machinate over the upcoming Chinese potash negotiations, I contend that something bigger is at work. A slowdown in China is going to impact corn prices, and with it the prices of the aforementioned sectors will be heading south. I don’t believe recent shutdowns by the likes of Potash Corp are enough to salvage the bottom line in 2H12. I readjusted for this a while ago, but it’s not too late.

(Also note – Indian and Brazilian lead macro indicators are not rosy for chems/agchems either. In addition, note the pressure to Indian fertilizer subsidies, and pressure to Chinese fertilizer exports).


Don’t Say I Didn’t Warn You!

1 Dec

So we wake up this morning with the news that the official PMI data shows a contraction in Chinese manufacturing activity for the first time since February 2009. This follows the HSBC survey published a couple of weeks ago which similarly illustrated a contraction. In this context it’s easier to understand the reduction in RRR yesterday afternoon. That reduction added some $63bn of liquidity to the Chinese economy.

Clearly the Government sees that the economy is not in for an easy ride. I mean after steadily raising the RRR in 12 steps since January 2010 from 15.5% to 21% (a record), and then leaving them since June 2011, this is a watershed moment. While commentators yesterday lauded the move as the PBOC’s attempt to steer the economy to a soft landing I would prefer to describe the move as follows: A long running policy of loose monetary conditions led to an influx of speculative capital. The change in direction (i.e. to tightening in Jan 2010) combined with a huge acceleration in housing construction has killed the boom, created distress and the PBOC is now waking up.

Initial loosening is generally greeted with joy (note markets were buoyed somewhat way before the announcement of combined central bank activity yesterday to put a band aid on the Euro crisis). However, within time the market will see that the damage that precipitated the change in monetary policy is too big for a gentle loosening. As such I expect Chinese economic conditions to continue worsening (today’s PMI data is one example), and the PBOC to take more agressive moves to loosen credit conditions. This will heighten the impact on those assets that were tied to the prior boom. In this case I would expect damage to significant parts of the EM equities, fixed income, and commodity complex, in addition to pain in the domestic real estate market. Don’t say I didn’t warn you.

Also note – there’s a chance this could spill over to the banking system.

PS – some additional color on the PMI data. New orders 47.8. Export orders 45.6. Note that the export sector’s value added accounts for only 10% of GDP (yes – only 10%). As such, domestic weakness is most likely to be the driver of GDP deceleration in the coming months. Index of finished goods inventory rose to a record high. Tobacco, transport equipment and petrol were above 54. Below 43 were textiles, chemical fiber and plastics, and ferrous metal. The biggest losers were electrical machinery and special purpose equipment.



The Party is Over

30 Nov

In recent blog entries I’ve tried to draw your attention to the problems facing the Chinese economy:

Things are Getting Messy

A Hard Landing

In case you had any doubt that the party is over in China, read the missive below published on Bloomberg yesterday….


Shanghaied Home Buyers Take to Street as Cuts Shatter Dreams

2011-11-29 16:01:00.0 GMT

By Bloomberg News

Nov. 30 (Bloomberg) — Danny Deng and his bride-to-be dreamed of their lives together as they walked through the showroom for a Shanghai housing project almost three months ago.

Pooling his own and his parents’ savings, a loan from his boss and a 1.1 million yuan ($172,000) mortgage, he bought an apartment and secured his fiancee’s hand.

On Nov. 19, Deng faced off a ring of security guards three rows deep wearing camouflage and carrying shields as he joined more than 100 homeowners rallying in front of the development’s sales office. His transformation from newlywed to street protester came after China Vanke Co. slashed prices for future buyers at the Qinglinjing complex, erasing about 20 percent of the value of his three-bedroom unit overnight.

“If I’d paid for it all myself, the price cut wouldn’t bother me as much, but there’s a lifetime of my parent’s blood and sweat in it,” said Deng, a 30-year-old electrical systems salesman. “Developers’ profits are outrageous. The price they set when the housing market kept going up was far more than the real value.”

Deng’s anger underscores the dilemma facing China’s government as it tries to cool the property market. If policies such as increased down payment requirements don’t go far enough, it risks a housing bubble; if it pushes too hard, it may provoke the ire of a new generation of middle class “fang nu,” or housing slaves, in a reference to the lifetime’s work needed to pay off debts.

Homebuyers Stung

Demanding Vanke, China’s largest publicly traded property developer by market value, compensate them or cancel their contracts, Deng and his fellow picketers on that rainy day are among homebuyers stung as prices reverse. Urban residential values have risen 155 percent nationwide since reforms 13 years ago created a private residential market in the communist nation.

Prices in Shanghai almost quadrupled over the past decade.

In October, hundreds of homeowners demonstrated outside the offices of China Overseas Property Group Co. over cuts at another project in Shanghai, according to the Chinese-language New Century Weekly. There have also been Chinese newspaper reports of similar protests in Beijing and the industrial city of Shenzhen near Hong Kong.

“This is certainly sending a very alarming signal,” said Cheng Li, a senior fellow at the Brookings Institution in Washington. “If property prices really go down, there will be a serious political crisis led by the middle class.”

Customer Anxiety

China Vanke, in an e-mailed response to questions, said that while it understood customers’ anxiety, prices were set by supply and demand.

“In a market correction, it’s hard to avoid that both sides, developers and homebuyers, will be affected,” the company said.

Residential property prices fell from the previous month in

33 cities of the 70 measured in October, the worst performance this year, after the government imposed restrictions on mortgages and loans to developers.

Analysts at Credit Suisse Group AG say prices may fall 10 percent this year and another 10 percent in 2012. Huang Yiping, a Hong Kong-based economist at Barclays Plc, said the drop would be between 10 to 30 percent in the next 12 months.

In an indication of how seriously the government is taking the matter, a Nov. 21 commentary by the official Xinhua News Agency said that such protests are “a social phenomenon that cannot be ignored,” before adding that their appeals aren’t supported by law.

Middle Class Power

China’s emerging middle class represents a potent new force that may number as much as 243 million, said Li of the Brookings Institution. On a growing number of issues from housing to the environment they are voicing their opposition online and on the streets.

Another Xinhua article argued that some price declines could be beneficial, enabling more people to afford a home.

Also at stake is the pace of economic expansion in one of the world’s few growth engines. Property directly accounts for

12 percent of China’s gross domestic product even before taking into account building materials, furnishings and appliances, according to a July report by the International Monetary Fund.

A drop in real estate prices could undermine the value of the collateral for about 40 percent of the loans issued by China’s biggest banks, the IMF said after a November survey of the lenders.

Price Move ‘Danger’

Falling land values may also impact local governments which depend on them for one-third of their revenue, said Wang Yi, a Beijing-based real estate analyst at Goldman Sachs Group Inc.

“The government thinks they have everything under control and can set the bottom,” said Du Jinsong, head of property research for Credit Suisse. “The danger is they may do more than enough, and it may be too late to stop a bigger fall.”

Questions over China’s housing policy are “overshadowing”

China’s economic outlook, the Paris-based Organization for Economic Cooperation and Development said Nov. 28. A day earlier, Xinhua reported Chinese Vice Premier Li Keqiang as saying the government should continue tightening after some observers, including scholars at Renmin University of China in Beijing, suggested the government would start lifting restrictions next year.

Residential property-related companies are already suffering on the stock market. China Vanke, based in Shenzhen, is down 25 percent this year in Shanghai trading, while Soufun Holdings Ltd., owner of China’s biggest real-estate website, has dropped 36 percent.

For Deng, the pain is more than financial. Tears swell in his eyes as he recounts the moment his father handed him access to his life savings of 360,000 yuan to help make the down payment.

Gnawing the Elderly

The gift made Deng consider himself a member of the “ken lao” generation, meaning to gnaw on the elderly.

“I was depressed, uncertain, touched and a bit ashamed,”

he said, asking not to be identified by his full Chinese name because of the personal nature of his story. “I had been proud and didn’t think it was their business. But when the moment really came, I knew it was impossible to manage only by myself.”

Deng had moved to Shanghai three years earlier from a small city in the north to be closer to a girl he met in college. When talk turned to marriage, his girlfriend insisted they buy an apartment first, he said.

“At my age, I should get married and I should have my own home whether or not I can afford it so that I can be the same as my classmates,” Deng said.

Raise a Child

Deng saw an ad on for pre-sales of a project called Qinglinjing, meaning “Clear Forest Path,” that was being constructed near a soon-to-be built subway station next to the future home of the Shanghai Disney Resort. Deng and his girlfriend visited a showroom to walk the wooden floors of the replica 96-square-meter (1,033-square-foot) apartment, planning how they would fill its two bedrooms, living room and study.

“We loved it,” Deng said. “It suits us for the next three to five years because we plan to raise a child soon.”

The snag was its 1.7 million yuan price tag. Chinese policy requires a minimum 30 percent deposit. Deng had saved 70,000 — not enough. That’s when he called his parents, then borrowed another 50,000 yuan from his boss, and secured a loan of 1.1 million yuan paying as much as 7.8 percent interest from Agricultural Bank of China, he said.

On Sept. 28, Deng and his girlfriend signed a contract with the developer, happy after winning discounts including 40,000 yuan off for being a member for the website and a 20,000 yuan markdown by collecting 20 stamps on a red “home- passport” issued by Vanke. The end price: 1.58 million, or about 13 times Deng’s annual wage.

The next month, they got married. Paying the mortgage will take up 40 percent of the new couple’s combined salary.

Housing Boom

The new norm for Deng’s generation stems from housing reforms begun in 1998, when then Premier Zhu Rongji privatized state-owned housing provided at low rents to urbanites, transferring home ownership from the government to the families occupying the dwellings. The housing market has boomed ever since, with a brief reversal in 2008 overcome by government stimulus.

Some 290 million city dwellers own their own homes, according to consultants Gavekal Dragonomics in Beijing.

China’s official home-ownership rate of 87.8 percent, which excludes migrant workers, exceeds the U.S. level of 66.3 percent in the first quarter of 2011, according to U.S. census data.

Rising Household Debt

While the property privatization has helped fuel one of the fastest episodes of wealth creation in world history, new buyers like Deng must mortgage their futures to afford a home in China’s swelling cities. The home-buying boom has contributed to a doubling of household debt in China since 2008, though the amount is still far below U.S. levels, according to Dragonomics.

Concerned a bubble was forming, the government this year stepped up measures to curb the market, including limiting home purchases in some cities, raising down payments and warning banks and other lenders to cut back loans to builders. That’s left some developers facing a liquidity crunch, necessitating price cuts to ensure enough sales are made to pay off upcoming debts and payrolls.

“It’s a game between developers and the state,” said Li Yun, an engineer who borrowed 280,000 yuan from his friends and relatives to buy an apartment at the Qinglinjing complex and who joined the protest. “Now that they cut prices so much it pushed homeowners to the frontline.”

Sales Agents Clapped

Zuo Hongxia, mother of a 15-month old baby, said she became a home owner after losing patience waiting for years for prices to come down. She recalled the frenzied scene when she picked her apartment in the same development as agents crowded around urging her to buy and then clapped and congratulated when she nodded agreement.

Just weeks after Deng had signed his purchase contract, he found out about the price cut when he saw a leaflet advertizing apartments in the same development with a discount of 4,000 yuan per sqm. The previous asking price was about 17,000 yuan to 18,000 yuan per sqm, according to Soufun’s website.

Acknowledging he’s unlikely to get the difference refunded, Deng said he’s now pushing for a waiver to management fees or a free parking lot. With talk some people have been detained by police after protesting, he’s also taking precautions, standing on the sidelines with a cap pulled low and bandana masking his face at a separate rally on Nov. 23.

“I didn’t have a choice,” he said of the decision to buy.

“I don’t want to be too different. Otherwise, maybe for a long time, I would be alone.”

A Hard Landing

24 Nov

About 6 weeks ago I wrote a blog entry called things are getting messy. Continuing with the theme of issues in the Chinese economy, I’d like to draw you attention to 2 recent news items.

  1. According to Beijing Business Today, Zhonghong Holdings have HALVED prices of units in their Xiangsu project in Chaoyang (to 11,600 Yuan per square meter from 22,900). This project used to record the highest monthly sales for the firm. In addition, the local Beijing regulator says that month-to-date home sales are down 60% in the city. I don’t really need to comment any more.
  2. There are reports of strikes and unrest in Shenzhen and Dongguan, two export hubs in Guangdong. According to the province’s acting governor, orders are down 9% sequentially.

For those expecting a soft landing in China, these data points suggest (as I’ve said for a while) that they are wrong. This comes of the back of an HSBC Chinese manufacturing index published last week that fell to the lowest level since March of 2009 during the depths of the economic crisis. In my opinion an HSBC index is more credible than the Madoff-esque official figures. (note – I hear that even the  electrical consumption figures are massaged these days!)

This portrait of China should be put in the context of other emerging market economies. While all eyes are on the European debt pantomime, Brazilian and Indian credit conditions have been deteriorating, and EM currencies (led by the likes of Turkey) have continued their slide / required massive intervention to hold them up – such intervention can only help for so long.

Those economies that fared well through 2008 and 2009 (i.e. EM) are rapidly heading for their down cycle now. For investors it’s time to focus on the US. Recent data has been very positive. The consumer is spending. The only reason GDP growth came below expectations (2% vs. 2.5%) is because in inventory draw down (clearly as positive). House building is beginning to turn around slowly (led by multi-family homes). US corporates are reporting good results, and beating expectations. Don’t get me wrong – it’s not a blow out, and there are likely to be bumps on the way, but the data point to a more robust US recovery than the market is pricing in now.

(PS – maybe the Middle East is a good place to be. The Saudi and Qatari economies seem to be in for business!)

Things are getting messy

3 Oct

For someone who blogs on China, leaving 100 days between entries is inexcusable! What can I say? I’ve been working on increasing my coverage of the Turkish and MENA consumer space for a new product my fund plans to launch. It’s been a lot of effort. In fact, I was in Turkey last week meeting management teams, and am happy to share some of my thoughts with you in upcoming entries. Even though they are not China related, I hope someone will find them interesting! (More to come on that later this week).

Anyway, for a while now I’ve aspired to move to China and to work in the Chinese markets. With that in mind I was speaking to a friend who lived in HK for a number of years. My aim was to price the cost of living and to see at what stage of my career I could make such a move. He told me that in 2005 when he last lived there he rented an apartment for US$5,000 a month.  The details of the apartment are irrelevant. The interesting point is that today the same apartment costs $10,000 a month to rent… and it’s occupied!

A 100% increase in 5 years is surely indicative of a problem. Since hearing this, my attention has been increasingly drawn towards cracks in the China story…

Let’s start with another piece of anecdotal evidence – I love a good story! Last weekend Sotheby’s in HK failed to sell all of its wine on auction for the first time in 17 sales. Anyway…

Last Thursday Reuters carried a story about Chinese entrepreneurs going into hiding to avoid repaying loans. According to the report cash-strapped firms, unable to borrow from banks due to a credit clampdown directed from Beijing, have turned to underground lending markets.  These underground markets are known to have annual lending rates as high as 100% (15x higher than the official benchmark).

Local media reported last week that the bosses of 9 SMEs in Wenzhou had fled town, unable to pay corporate loans.  One such boss is the Chairman of glasses manufacturer Zhejiang Center Group.  In 2008 these guys were hoping for an IPO. According to their website they employ 3,000 people and enjoy annual revenues of ~550m yuan.

The total underground lending market is estimated at about RMB 5bn – that’s about 10% of total Chinese lending. About half of this figure comes from high net worth (HNW) individuals, anxious to put their money to ‘better use’ than make do with the rates received on official deposit accounts.  As the risks of default increase HNW are trying to withdraw their commitments.  Yet the market is getting concerned that HNW are going to take a hit, and stop buying sports cars and luxury goods (not to mention their trips to Macau).

The picture gets complicated when this lending (and the HNW purchases) is removed from the real estate pie. Not only is real estate hit (and my friend’s old rental might come down from US$10,000 a month), but there is US$1.7tr (yes trillion) of outstanding local government debt in China. So what’s the issue – about 40% of local government revenue  comes from land sales, and volumes are down about 30 this year!

In fact, for the first time in five years Chinese housing starts are on the decline as credit becomes increasingly harder to arrange. New developments are being postponed or slowed with banks less happy to lend for construction. In addition, the availability of mortgages has fallen while pricing has increased.

One final tidbit – the average days for accounts reveivable of the largest 300 Chinese stocks stood at 48 days in 1H11 – that compares with a decade average of 39 days. Apart from bein g a sign that SMEs are finding it harder to pay their suppliers, that’s going to impact the price of borrowing as well as cash flows. Yes this has happened before, but it was always in an environment in which RRRs were decreasing – today they are increasing.

So with the interconnected nature of financing, real estate, SMEs, HNW, employment, and Government revenues – things are about to get messy.

Chinese Excavator Sales Crash!

23 Jun

Earlier this month the Wall Street Journal carried an article headlined “China’s holes in the road”. The journal contented that a recent slump in excavator sales is a lead indicator of a hard landing in China’s GDP growth.

The headline figures are indeed stark. Year-on-year excavator sales in May were down 9.6%. What’s more, sales of heavy duty trucks declined 22.4% over the same period.

The WSJ’s conclusions are simply sloppy! These data points do not necessarily indicate (and should not cause!) a sudden and quick slowdown in GDP growth and fixed asset investment. Why?

• Sales in durable goods are naturally choppy, and a contraction in excavator sales in May comes off the back of a massive 20.8% growth in April. Heavy duty truck sales did decline in April too (-8.3%), but this also comes off the back of a strong March (10.2% growth).

• A limited period of falling sales in such goods will not have a significant impact on FAI growth, as the actual number of outstanding machines continues to grow. In addition, industry can increase utilization rates, and increase the lifespan of outstanding machinery.

• The Chinese authorities have been implementing a process of tightening. This leads corporates to allocate more of their cash to more immediate concerns like working capital.

• As for a reduction in excavator / heavy duty trucks causing a slowdown itself…well it only accounts for ~1.7% of China’s fixed asset investment, and a third of excavators are actually imported!

Looking at the economy from another angle – what is there supporting a soft landing?:

• Money supply is still supportive

• Social housing should fill the gap left by private real estate developers

• Healthy overall fiscal situation

Adam Smith In Beijing

13 Apr

A sophisticated insight into historical cycles, original interpretations of Adam Smith and Karl Marx, a breadth of foreign policy knowledge, and a knack for understanding human motivation. Late John Hopkins professor of sociology Giovanni Arrighi weaves these threads in his work Adam Smith in Beijing, and presents a case for the rise of East over West in the coming decades.

Arrighi opens by discussing the battle between capital and labour through the prisms of Smith and Marx. Smith differentiates between the natural and the unnatural path of economic development.  These two paths are best understood in Smith’s own words:

” According to the natural course of things, therefore, the greater part of the capital of every growing society is, first, directed to agriculture, afterwards to manufactures, and last of all to foreign commerce.  This order of things is so very natural, that in every society that had any territory, it has always, I believe, been in some degree observed…. But though this natural order of things must have taken place in some degree in every such society, it has, in all the modern states of Europe, been, in many respects, entirely inverted. The foreign commerce of some of their cities has introduced all their finer manufactures, or such as were fit for distant sale; and manufactures and foreign commerce together, have given birth to the principal improvements of agriculture. The manners and customs which the nature of their original government introduced, and which remained after that government was greatly altered, necessarily forced them into this unnatural and retrograde order. ”

Arrighi contends that the unnatural path leads to class conflicts as outlined by Marx, in which a relatively small class  gain control/ownership over production and financing, resulting in the creation of industrial states. To ensure a fresh supply of markets, and returns above the costs of capital, such industrial states are incentivised to military build up and imperialistic action. Concurrently, the flow of capital from lower return areas to areas with lower competitive forces leads to a wave of create destruction. Eventually, accumulation collapses under the stress of administrative costs, most notably military spending, and the state suffers a decline.

Arrighi argues that President Bush’s economic and foreign policy aims were the culmination of a neoliberal attempt at world domination, akin to the adventures of previously fallen empires (such as the British).  However the escalating cost of the Iraqi war/occupation, as well as loss of perceived total dominance on the battlefield in effect led to the unravelling of American hegemony. The point about costs is all important, as hegemony requires hegeMONEY. I was particularly struck by the differences the author highlights between the “US Empire” and the British. While the sun did eventually set on the British Empire they were able to prolong their rule by balancing their current account through raping overseas resources (primarily Indian), and using non-UK residents as army fodder (again primarily Indian). The US in contrast has no such resources.

An overextended US has left space for the East, notably China, to continue its steady rise. China by contrast followed Smith’s natural path of development – a large market economy managed by an active government. Some term this an industrious revolution, which leads to a large internal market, good supply of labour leading to a diverse skill base and economy, in which wealth is more widely dispersed. Natural development avoids the class distortions described by Marx.

It is this diverse and educated labour base that are well placed to continue a path of internal growth. Through China’s relatively stable/broader wealth creation and her influence on global financing, investment decisions and global power will continue to move from West to East.

I am not an economist by trade, but with a little effort, I found Adam Smith in Beijing very accessible. I’m sure an economist could find what to criticise, though from the point of view of a laymen I found the themes made common sense, appeared coherent, and provided me a valuable set of tools to judge global economics and its relation to foreign policy and power. From a layperson’s perspective my only criticism would be the one sided nature of the arguments. While I am also a sino-phile, I’m not blinded enough by my passion to assume that the road to greatness is inevitable. China will have to contend with other emerging powers (notably India), and will have to face issues such as human rights and democracy as well as environmental coherence.

All in all an intelligent and thought provoking read – go read it!