Archive | Market 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.

 

 

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.

A Guru in China (part II)

1 Dec

Anthony Bolton updated investors via webcast today on his thoughts about investing in China. There were some interesting insights regarding the composition of his China fund at Fidelity.  I’ve previously written about Anthony’s bold move to move to China (https://ravendragon.wordpress.com/2010/11/18/an-investment-guru-in-china/ ). In that previous blog entry you will find a link to Bolton’s previous webcast, with more general China investment themes/insights. I will update this blog entry with a link to today’s webcast once Fidelity add it to their website.

What did we learn today?

  • 37.5% of the fund is in companies below US$1bn market cap. 35% of the fund is invested in companies with a market cap between US$1-5bn. This plays into Anthony’s themes of looking for growth companies, and companies that are less likely to be covered by the sell-side. The idea is that low coverage can equate with hidden value.
  • The presentation outlined all sector weightings. What interested me was that the fund is massively overweight consumer stocks (21.7% vs. an average of 5.5%). This plays into a macro theme that I’ve written about a number of times: the growing power of the Chinese consumer. Anthony talks of a 2-tier world when it comes to growth, with China outpacing the West (albeit slightly slower than the past decade). This 21.7% weighting clearly plays to that theme.
  • Top holdings include:

o   Bank of China in HK – If I understood correctly, this company has an effective monopoly in clearing!

o   China Unicom HK and China Mobile – Convinced that the data revolution will have a positive impact on Chinese telephony.

o   Ping An – Insurance. The State is slowly migrating its responsibility to the private sector.

o   Brilliance China – 50% JV with BMW. Expects them to sell 300k cars in a few years (up from 50k). This is part of a replacement cycle (including replacement of BMWs built in Germany). A highly recognized brand that’s underrepresented in the domestic market.

o   United Labs – working on insulin. Set to take on the dominant global players.

  • 2 of my questions were answered in the webcast:

o   With blue-chip US companies at historical lows, and the recent flows into EM/Chinese markets, do you think there’s likely to be pressure on Chinese markets next year?

Anthony answered with his investment thesis on the 2-tier growth world. He said that he is not concerned as he expects US growth not to return to its regular place for a while, and expects the delta to remain compared with Chinese growth. He added, however, that flows will indeed reverse if he is wrong.

This answer concerns me slightly. Why? There are key differences between US GDP and the S&P500. The former is characterized by domestic spending (mainly consumer), net imports, net borrowing, prefers a strong USD, and is captive to US taxation. The S&P500 on the other hand is global, driven by business spending (and note that global Capex spend is becoming less dependent on the US), is characterized by net savings, prefers a weak USD, and contains companies exposed to attractive tax rates compared with the US.

Granted the strength (or lack thereof) of the S&P is not the only driver of Chinese/EM markets. The risk is even lower for a fund that does not track an index. Nonetheless, I do envisage flows to the US pressuring EM markets in 2011.

o  My second question was whether Anthony sees a risk of rising interest rates in China impacting the market. He said that he feels that at some level rate increases can impact a bull market, but he felt that China is less sensitive than Western markets, mainly due to the fact that there is less consumer debt. As a side point, he said that’s why the authorities rely more on direct controls to lending and increased RRRs when as tools to control real estate and liquidity.

My question does not come out of thin air.  The Dow Jones Industrial Average was 875 on both the 31 Dec 1964 and 31 Dec 1981. Over that 17 year period US GNP grew 373%. By 31 Dec 1998 the Dow was up 10.5x to 9181.43. Over that 17 year period US GNP increased 177%. It’s no coincidence that at the end of 1964 long bonds in the US were 4.2%. At the end of 1981 they were 13.65%, and at the end of 1998 they were back down to 5.09%. There’s a lot more to say about this subject, and many other drivers of the markets (including psychology, and expectations). But interest rates do have a major impact in the value of all assets, and not just bonds!

Today with quantitative easing, economic stimulus, commodity increases, and flows into EM the risks are tilted towards an increase in interest rates from their historically low levels.

What else? He said he likes Gold, but is not bullish on other commodities.

An Investment Guru in China

18 Nov

Over the 28 years in which Anthony Bolton managed money for Fidelity, he delivered average annual returns of 19.5%. In April of this year the 60 year old investment legend came out of retirement and is betting his reputation on a China Special Situations fund. Since opening, the fund is up 27%. What’s more, he’s put GBP2.5m of his own money in the pot.

Why take such a reputational risk? Here’s the answer in Bolton’s own words:

“People have said to me: ‘Anthony, if it is a success, so what? But if it is a failure, you are going to ruin your record,’” “But in terms of what’s important to me, my reputation is not at the top of my list. I think this is one of the most interesting things I have done in my whole career in investment. You don’t want to get to the end of your life and say, ‘Why did I not have a go at that?’”

One has to admire that deep sense of curiosity. It’s surely that type of character that contributed to his record over the proceeding 28 years.

The first link below will take you to a 45 minute interview with Mr. Bolton, where he discusses his experiences. The interview covers many topics including his broad investment thesis, specific stock ideas, macro risks, as well as Chinese business management. The second link is to register for a live webcast on 1 December in which Anthony Bolton will update his investors on the fund’s performance, as well as his thoughts on the Chinese markets. Beneath the links, I note the major points from Bolton’s interview.

I find it enlightening to listen to a ‘guru’ such as Bolton. Even if one’s not invested in China, this interview contains much investing wisdom. I specifically enjoyed seeing the application of tested investing principals in a fresh market – there’s nothing mystical about Chinese markets – it seems one can make (or lose) money in the same way as in developed markets.

The interview:
https://www.fidelity.co.uk/investor/research-funds/investment-trusts/china-video-update.page

Register for the webcast: http://mediazone.brighttalk.com/event/Fidelity/125c0e943c-4426-intro

General Thesis:

· China is set to enjoy higher growth than the rest of the globe over the coming decade. Bolton talks of 8-10% growth per annum, versus around 2% in most developed markets

· A growing middle class is leading to a more consumer lead economy

· Chinese small and mid cap stocks are mostly under-covered by the street

Is there an asset bubble in China?

· There is a bubble in big city residential real estate

o This will lead to bad debts, but a lot of the prices / valuations are already accounting for this. In addition, a lot of the banks and local authorities have access to central government funds, which are deep.

· There is no bubble in the stock market

· Long-term general real estate outlook is good

Which investment themes are you playing?

· Consumer is a large play, though the definition of consumer is large and includes retailers, wines/spirits, autos, media, net, financials, and hotels.

· Agriculture is not a big play (though he does hold a large fertilizer name)

· 60% of the fund is in companies with market caps below $5bn

· 25% is below $1bn market cap

· There are 2 main groups of companies:

o Growth – <20x current year’s earnings (minus net cash). The valuations are usually at a premium to developed market peers, though growth is 20-30% annually. In these stocks he’s looking for business models that he’s seen work in Europe.

o Value – Trading at a discount, usually small and midcap. They are still growing at 10-15%!

· A lot of these companies have cash

· Time Horizon is not that different from US/EU companies. Roughly 18 months.

Other interesting points

· Management is getting much better

· Concerned there might be an informational disadvantage in holding A-Shares. Need more knowledge to increase the A-share portion of the portfolio

Long term concerns

· As the middle class get more mature, they will want more freedoms. How the government reacts will be crucial.

 

In the interview Bolton mentions 3 companies he holds and why he likes them. In my next blog entry I will take a closer look at those 3 holdings.

Zai Jian

 

 

http://mediazone.brighttalk.com/event/Fidelity/125c0e943c-4426-intro

Over the 28 years in which Anthony Bolton managed money for Fidelity, he delivered average annual returns of 19.5%. In April of this year the 60 year old investment legend came out of retirement and is betting his reputation on a China Special Situations fund. Since opening the fund is up 27%. What’s more, he’s put GBP2.5m of his own money in the pot.

 

The first link below will take you to a 45 minute interview with Mr. Bolton, where he discusses his experiences. The interview covers many topics including his broad investment thesis, specific stock ideas, macro risks, as well as Chinese business management. The second link is to register to a live webcast of Anthony Bolton updating investors on the fund’s performance on the 1 December.

 

I find it enlightening to listen to a ‘guru’ such as Bolton. Even if one’s not invested in China, this interview contains much investing wisdom. I specifically enjoyed seeing the application of tested investing principals in a fresh market – there’s nothing mystical about Chinese markets – it seems one can make (or lose) money in the same way as in developed markets.

 

The interview: https://www.fidelity.co.uk/investor/research-funds/investment-trusts/china-video-update.page

 

Register for the webcast: http://mediazone.brighttalk.com/event/Fidelity/125c0e943c-4426-intro

 

General Thesis:

· China is set to enjoy higher growth than the rest of the globe over the coming decade. Bolton talks of 8-10% growth per annum, versus around 2% in most developed markets

· A growing middle class is leading to a more consumer lead economy

· Chinese small and mid cap stocks are mostly under-covered b the street

 

Is there an asset bubble in China?

· There is a bubble in big city residential real estate

o This will lead to bad debts, but a lot of the prices / valuations are already accounting for this. In addition, a lot of the banks and local authorities have access to central government funds, which are deep.

· There is no bubble in the stock market

· Long-term general real estate outlook is good

Which investment themes are you playing?

· Consumer is a large play, though the definition of consumer is large from retailers, wines/spirits, autos, media, net, financials, and hotels.

· Agriculture is not a big play (though he does hold a large fertilizer name)

· 60% of the fund is in companies with market caps below $5bn

· 25% is below $1bn market cap

· There are 2 main groups of companies:

o Growth – <20x current year’s earnings (minus net cash). The valuations are usually a premium to develop market peers, though growth is 20-30% annually. In these stocks he’s looking for business models that he’s seen work in Europe.

o Value – Trading at a discount, usually small and midcap. They are still growing at 10-15%!

· A lot of these companies have cash

· Time Horizon is not that different from US/EU companies. Roughly 18 months.

· Other interesting points

· Management is getting much better

· Concerned there might be an informational disadvantage in holding A-Shares. Need more knowledge to increase the A-share portion of the portfolio.

 

Long term concerns

· As the middle class get more mature, they will want more freedoms. How the government reacts will be crucial.

 

He specifically mentions 3 companies he holds and likes. In my next blog entry I will write some notes on these, and take a closer look.

 

Zai Jian

 

 

The death of Shanghai real estate vs. low market risk

12 Aug

Volatility in the Chinese stock market hit its lowest level this week since April 2007. Check out the graph below.  Seems investors are seeing less risk in Chinese stocks at this time.

Now, data out today shows that new mortgage loans in Shanghai dropped by an massive 98% in July… Yes 98% – that was not a typo.  In the past I’ve described the merits of an authoritarian input to the market – well here’s an example of the dark side of such authoritarian input.  A large decline was expected as the government continued to enact tightening policies this month, and transaction volumes are known to have declines.  However this is  huge and more than an indication that Chinese real estate is in for a hard landing.  Expect spill over, not least in the volatility chart above!

Oh – and check out China’s M2 – also ground to a halt in July. Not a positive sign!

Volatility in the Chinese stock market hit its lowest level this week since April 2007. Check out the graph below.  Seems investors are seeing less risk in Chinese stocks at this time.

https://ravendragon.files.wordpress.com/2010/08/vol.jpg

Now, data out today shows that new mortgage loans in Shanghai dropped by an massive 98% in July… Yes 98% – that was not a typo.  In the past I’ve described the merits of an authoritarian input to the market – well here’s an example of the dark side of such authoritarian input.  A large decline was expected as the government continued to enact tightening policies this month, and transaction volumes are known to have declines.  However this is more than an indication that Chinese real estate is in for a hard landing.  Expect spill over, not least in the volatility chart above!