Select Page

Submitted by Michael Every of Rabobank

It only hurts when I laugh...

…but how I need to laugh. Weeks after stopping QE just as growth collapsed and CPI remained vastly lower than target, the ECB kept its key rates on hold at negative; forward guidance on rates was extended to “at least through the end of 2019”; forward guidance on reinvestments was reconfirmed as “an extended period of time past the date when it starts raising the key ECB interest rates, and in any case for as long as necessary”; and a new set of quarterly TLTRO-IIIs was announced, running between September 2019 and March 2021 with maturity of 2 years each. As our ECB team report here, the Bank tried to convey confidence, but its slashed forecasts and policy actions paint a different picture, and the market was disappointed by the TLTRO-III announcement details anyway. EUR too. As someone quipped this morning TLTRO stands for The Last Try to Restore Optimism.

Indeed, globally you really couldn’t make much of what we are seeing up. New-York based MSCI say they will significantly increase China’s EM equity index weighting from 0.7% to 3.3% by November despite no sign whatsoever that Beijing has learned anything from the 2015 debacle. Then comes the allegation that MSCI was leaned on by the Chinese authorities to green-light inflows of foreign indexed funds. Following that, China blows another equity bubble and despite losing a fortune in 2015; panic; blood-letting; censorship; arrests, etc., Chinese grandmothers are diving back in to stocks headfirst again: margin debt is up, volume is up, and the Shanghai market is up 25% ytd despite a severe cyclical and structural downturn. One local brokerage is now calling for it to go from 3,100 to 4,000, so another 30% from here even as Bloomberg notes the stocks with the worst earnings are seeing the fastest gains in price, even the infamous company that couldn’t repay its bonds and offered ham to bond-holders as payment is up 82% YTD. Yet here comes the punchline: MSCI is now calling on China to increase the foreign quota for individual stocks from 28%, or else those limits will rapidly be reached and said companies will have to drop out of the index!

On which note, allow me to again share some snippets of unattributed institutional money manager views on the Chinese equity markets gleaned second-hand from what were originally first-hand conversations.

First, they still want in even having missed 25% in two months, which many might say would be a good return over any two-year period. Second, none of them has a compelling argument to any of the downside risks. For example (and with my ripostes in brackets):

  • MSCI have quadrupled China’s weighting.” (Yes, and were they compelled to?);
  • Where else is the liquidity going to go? It won’t go into the real economy!” (So this is a bubble!);
  • CNY is a fixed currency so returns are guaranteed.” (Nothing is guaranteed, and CNY is a loose peg under a lot of pressure.);
  • CNY is not allowed to respond to slower growth, financial, or credit risk.” (What was the move from 6.04 to 6.97 all about then?);
  • Looks like China will strike a trade deal for a stable currency so no devaluation.” (Promises and delivery are two different things.);
  • China needs a stronger CNY because it needs more consumption growth.” (I need to be a ripped 100kg superman: I’m not);
  • Yes, I hear the bear case but you can’t trade that.” (Yes, you can - by not buying Chinese assets/CNY and instead selling proxies such as AUD, as we all know.); and
  • 6% growth is still better than others.” (As a report alleges China has over-stated growth by 2ppts for a decade, in which case the whole economy is around perhaps as much as a third smaller than official estimates! And even if growth is 6%+, confidence is still sagging, and nominal y/y GDP growth rates between the US and China starting to converge.)

The last thing China --or anyone!-- needs is another equity bubble that bursts in 2019 or 2020, especially given we are already looking at a US recession in the latter. That won’t be funny at all. Nonetheless, that seems to be what we are going to get. Especially if the US-China trade deal breaks down like North Korea denuclearisation did. On which front, consider the New York Times is reporting China is getting cold feet are we are still no nearer any enforcement mechanisms; and that US security services have allegedly hacked Huawei, making accessible all of its data and internal communications. Yet again the US mirrors China! Allow me to conclude the following. First, this was no accident, and neither was the leaking of the news; there are almost certainly forces in the US that do not want a Donaldtov-Xibbentrop Pact being signed, just as there are in China. Second, all the to-and-fro over whether Huawei is or isn’t a branch of the Chinese government is now moot; the US knows the real truth and will share it.

Talking of equity bubbles and truth and needing a laugh, overnight we also saw a USD3,730bn drop in US household worth in Q4 on the back of lower equity prices in that quarter. That’s a lot of change to drop down the back of the sofa. And it also shows why the US is so madly intent, from the White House to the Fed, in keeping equity prices up, even if most people don’t notice the benefits. Kind of like China, eh?