Our Latest Thoughts On C-H-I-N-A

The hyperlinked presentation below contains a detailed update to our cyclical and secular Growth/Inflation/Policy outlook for on the Chinese economy. The key conclusions are as follows:

 

  • Section One – Correction or Collapse? (slides 4-32): China’s secular growth outlook is likely more dour than the average “China bear” is willing to admit, which implies the recent margin-fueled melt-up in Chinese equities was little more than a bubble that is likely to continue popping amid reduced state-backed intervention. Conversely, the secular outlook for capital markets reform in China is supportive of expectations for much higher share prices over the intermediate-to-long term. These conflicting forces have been anything but a fair fight given how much what is left the “Beijing Put” has proven to be impotent of late.
  • Section Two – Asset Class “Re-Rotation” Risk (slides 33-61): Our analysis continues to pick up on a positive inflection in the Chinese property market. To the extent this nascent recovery is sustained, we expect two things to occur: 1) mainland Chinese investors are likely to continue to flow capital back into real estate in lieu of stocks, at the margins; and 2) Chinese economic growth is likely to show stabilization for at least 1-2 quarters. The former is an obvious headwind to the Chinese equity market(s) and the latter is key risk in terms of reduced expectations for fiscal and monetary stimulus.
  • Section Three – RMB Internationalization Impact (slides 62-72): Ahead of next year’s [likely] rebalancing, Chinese policymakers have lobbied strongly in favor of the yuan to be included in the IMF’s Special Drawing Rights (SDR) basket. Regardless of any success with this initiative, we believe Chinese policymakers are serious regarding their pledge(s) to accelerate capital account reform. We believe an incrementally deregulated Chinese capital account has the potential to be a lasting positive influence upon both the Chinese and global economy – IF spillover risks are curtailed via effective safeguards. The extent to which Chinese authorities are willing to defend the CNY from bearish speculators remains to be seen.
  • Associated Investment Implications: Over the long term, we think H-Shares represent an active opportunity on the long side but do not view the current juncture as an appropriate time to buy given the elevated spillover risk resulting from a continued and necessary meltdown in the A-Shares. Longer term, however, we think both markets are poised to trade materially higher amid the confluence of key capital markets and capital account reforms. Meanwhile, China’s secular growth outlook should continue to impart deflationary pressure upon commodity prices and the nominal exchange rates of commodity-producing nations. Please note that we do not currently have any active investment ideas in/around China, having closed all positions on 8/21 (CLICK HERE for more details).

 

CLICK HERE to download the associated PDF.

 

Please feel free to engage us with questions, comments or concerns.

 

Have a wonderful evening,

 

DD

 

Darius Dale

Director


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