Eye On Asia: The Good, The Bad, and The Ugly

Conclusion: The bevy of economic data out of Asia over the last 48 hours makes us question the legs behind the bullish rally in many Asian equity markets. In addition, the data grows increasingly supportive of the relative underperformance of Japanese equities.

 

Positions: Long Chinese Yuan (CYB); Short Japanese Equities (EWJ); Short Japanese yen (FXY); Short Indian Equities (INP); Short Emerging Market Equities (FFD)

 

There has been a slew of economic data coming out of Asia over the last 48 hours – some good, some bad, and some ugly. Rather than belabor the point(s) with excessive prose, we’ll just highlight the meaningful deltas and inflection points in the call-outs and charts below.

 

The Good 

  • Japan’s Machine Orders grew in August to +10.1% MoM from +8.8% in July. This is the largest monthly increase since December and, while stale, this data point is serving to pare back concern regarding the frailty of Japan’s economic recovery.
  • Malaysia’s Industrial Production accelerated in August to +4% YoY from +3.2% in July.
  • Australia’s Consumer Confidence inflected in October, accelerating +3.3% to 117 from a (-5%) drop in September.
  • Australia’s Business Confidence Conditions Gauge (hiring, sales, and profits) rose in August to 7 from 5 in July.
  • Hong Kong’s introduced a rent-to-buy program for foreigners looking to buy property. This is an incremental measure to combat surging housing prices that have increased nearly 50% since 2009. 

Eye On Asia: The Good, The Bad, and The Ugly - 1

 

Eye On Asia: The Good, The Bad, and The Ugly - 2

 

The Bad

 

  • China’s Export and Import growth slowed in September, which, on the margin, highlights a deceleration in Chinese and global demand. Exports slowed to +25.1% YoY from +34.4% in August; Imports slowed to +24.1% YoY from 35.2% in August. This lends further support to the claim that inflating commodity prices globally are more the result of dollar debasement than any other factor.
  • China’s central bank temporarily raised reserve requirements 50bps for six large commercial banks to rein in excess liquidity and fight inflation. The current levels are 17% for the largest lenders and 15% for smaller institutions. This latest move is in response to China’s accelerating inflation, which hit a 22-month high in August. Central Bank Governor Zhou Xiaochuan also recently said it may take two years for the inflation rate to fall below 3%, which is a firm stance against a potential interest rate hike and global calls for expedited yuan appreciation.
  • Malaysia’s Export growth decelerated in August to +10.6% YoY from +13.5% in July.
  • Dai-ichi Life Insurance Co., Japan’s second largest-insurer, plans to boost its holdings of JGBs in lieu of Japanese equities. The Nikkei, which is down (-11%) YTD, may come under substantial incremental pressure should more Japanese insurance companies and pension funds follow suit.
  • Australia’s headline Business Confidence declined in August to 10 from 11 in July. 

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Eye On Asia: The Good, The Bad, and The Ugly - 4

 

The Ugly 

  • Japan’s public pension fund plans to expand its investments to include emerging market equities next summer. This marks the beginning of the end in terms of Japan’s reliance on domestic demand for JGB financing (~95%). As of 2008, 61% percent of JGBs were financed directly or indirectly from the funds of Japanese households. With this tailwind becoming a headwind over the long term, how will JGBs attract foreign buyers with such low yields going forward? Refer to the long term call outlined in the Japan’s Jugular section in Hedgeye’s 4Q Macro Themes presentation for more details.
  • Japan’s Consumer Confidence dropped in August to 41.2 from 42.4 in July. One of the key tenets to our Japan’s Jugular intermediate term call is that yen strength bodes poorly for Japan’s domestic economy, which is levered to exports as the main driver of growth. With exports slowing, we expect the side-effects (rising joblessness, declining consumer and business confidence, etc.) to be a major drag on that economy over the next 3-6 months.
  • Korea’s PPI accelerated in September to +4% YoY from +3.1% in August.
  • India’s Industrial Production decelerated in August to a 15-month low: +5.6% from a revised +15.2% increase in July.  The slowdown in industrial output may weigh on the central bank’s decision to continue rate hikes to fight India’s rampant inflation going forward. 

Eye On Asia: The Good, The Bad, and The Ugly - 5

 

Eye On Asia: The Good, The Bad, and The Ugly - 6

 

The Murky 

  • China’s FX Reserves grew to a record $2.65 trillion in September from the prior $2.45 trillion, adding concern that the U.S. will accelerate protectionist litigation through Congress. This morning, Senate Finance Committee Chairman Max Baucus went on record saying a bill that would “punish” China for its undervalued yuan is likely to get past the Senate and onto President Barak Obama’s desk.
  • The MSCI Emerging Market’s Index historical volatility closed at 12.1 last week – the lowest levels since July 2007. In our models, depressed volatility could potentially be a contra indicator and a signal to sell. Looking back historically, we see the measure increased off its lows to 27 just prior to the EM Index peak in October 2007.
  • Thailand will remove a 15% tax exception on foreign income from domestic bonds in an attempt to stem gains in the baht. This is just another action amid a growing list of steps taken by foreign central banks to combat excessive currency gains amid Fed-sponsored dollar debasement. QE may be good for a near-term equity rally, but the dollar’s decline is restricting export competitiveness and stoking inflation globally. Exports account for roughly 70% of Thailand’s GDP. 

While we continue to be favorably disposed to Asian countries with strong growth profiles like China, Singapore, and Indonesia, we would be remiss to join in on the rally and decoupling talk now. We are likely buyers on pullbacks provided these markets hold important quant lines of support in the event of a dollar breakout. That, however, remains the biggest “if” in all of global macro investing right now.

 

For now, we are content to wait and watch.

 

Darius Dale

Analyst


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