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Monday, 23 October 2017

Welcome to 'Reversal day'

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  • Peters 475px June 2014

News out of China is not good, but it is not dire for the West.

The debate on China has many questioning whether the model which gave the country such stunning growth since Western economies blew themselves and their banking systems up might perhaps not have been quite so clever after all.

With respect to the sharp repricing of the equity markets, well, suddenly everybody knows that it was SixPack-Wei who drove it up and that it is he and his family who is taking it on the nose on the way down again. Job done? The two words I have yet to hear in any conversation on the subject on any broadcast channel, be that telly or wireless, are “greed” and “fear”. Funny that.

That China has been pushing the envelope, growth-wise, is barely a secret but just as the West worshipped at the feet of the Japanese economic miracle in the 1990s, so it has done in China in the past decade. Forgetting the casino which is the Chinese stock market for a moment, much of the Middle Kingdom’s super-heated economic expansion has come from public sector spending on infrastructure.

Japan has had so many “kick-starts” that it has just about kicked itself to death and now, looking closely at China, pundits are suddenly discovering signs that it too might be risking doing the same; empty cities, mothballed airports, roads leading to nowhere. GDP:1, Value Added:0.

The slowing economy is of significant interest to the West, albeit that it would appear to be predominantly the hard commodities and luxury goods sectors which are scared of the slowdown as, in most of the rest, China is as good as self-sufficient.

Does the West really have to be frightened enough to chase the DAX back below 10,000 pts (it closed yesterday –4.7% at 9,648.43 points) or to cause the Dow to open a 1,000.00 point down? I see no reason why. Most of the Chinese travails are domestic matters – most, though by far not all – and the stock market bubble is, near as dammit both in its inflation and deflation, a totally all-Chinese affair. What I would like to hear is the post-factum justification of any equity strategist in the West who put a buy recommendation on China at any time since the beginning of this year.

The Australians certainly got the message as they rallied the ASX back 2.72% today. Moff’s colleague Malcolm Palmer wrote yesterday: “The Australian stock market index has declined to about 5,000 points, which from any practical viewpoint is lower than assessed fair value. Companies on average now offer a profit yield of higher than 6%, and in many cases a dividend of above 5%, often fully franked. Interest rates are 2% and unlikely to rise anytime soon. The Australian economy lacks spark, but is generating positive GDP, primarily from the construction, real estate, services and healthcare sectors. Prior to this recent correction our expectation was that the middle months of 2015 would be weak, but a recovery towards fair value was likely to commence in the final quarter of the year. This remains our view, but with an understanding that a more meaningful recovery might be deferred to 2016 due to the fickle market conditions and temporarily weaker investor confidence.”

In other words, it ain’t great but it’s nowhere nearly as bad as the markets would have us believe. Hear, hear!

The time has come for us all to sit back, block out the white noise of howling media and to ask ourselves whether there is anything out there which has either fundamentally changed or that we didn’t know or think about other than the timing of the stampede of China’s retail stock speculators?

That said, there might be one change which we failed to “price” which is that Xi Jinping is not Hu Jintao and that Li Keqiang is not Wen Jiabao. The China we are facing today is a very different place to the one we were facing before March 2013 and I suspect that the West have as yet not fully appreciated the difference in the leadership’s aims and aspirations. Of course it knows where its bread is buttered but is seems significantly less prone to do all it can simply to please the gallery. The winds might be blowing from the same direction, but they are at a very different temperature.

So today will be the first reversal day – it is, after all, Tuesday – and European and US markets will begin the fight-back. Don’t expect miracles but I’d be surprised if we don’t retake at least half of the territory lost yesterday. Bonds made the right start with the US 10-year note trading back above 2%; anyone who bought it yesterday with a “1-handle” deserves no better. The VIX index went bananas, closing at 40.74, 12.71 higher on the day. Same conclusion, as far as I’m concerned.

Xi Jinping is not Hu Jintao and that Li Keqiang is not Wen Jiabao. The China we are facing today is a very different place to the one we were facing before March 2013

China, as noted, is far from perfect and many of its problems will be measured in blind, non-productive infrastructure spending. European politicians should be warned. Infrastructure built to meet existing demand is too late; infrastructure built in order to create demand is as often as not in the wrong place at the wrong time. It should be developed hand in hand with the private sector for a specific purpose and not simply used as a tax-payer funded sop to anaemic growth.

I do hope that the Muppet-in-Chief, EU Commission President Jean-Claude Juncker, is listening … spending what you haven’t got on things you might not need has little to add other than GDP and it is no secret that I think that to be a poor measure of economic success.

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