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War Room 16 Nov 2011 China Hard Landing

War Room 16 Nov 2011 China Hard Landing. War Room. Monthly macro discussion Using tools in context Feature for subscribers only Feedback - what should it to be?. Super-Committee Update. Deadlines 21/Nov + 23/Dec, or sequestration cuts take effect (in 2013)

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War Room 16 Nov 2011 China Hard Landing

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  1. War Room 16 Nov 2011 China Hard Landing

  2. War Room • Monthly macro discussion • Using tools in context • Feature for subscribers only • Feedback - what should it to be?

  3. Super-Committee Update • Deadlines 21/Nov + 23/Dec, or sequestration cuts take effect (in 2013) • Risk of additional US credit downgrades • Risk to defense sector not priced in ($600B in defense cuts) • New Scenario: Super-Committee fails

  4. China Hard Landing • China Overview + Problems • Euro Debt Crisis affect on China • Potential Scenarios

  5. China Overview 2001-10 China GDP growth: 6,000% 2001-10 China Equities growth: 90% • Problems • Housing Overheated • Inflation + Currency Woes

  6. China Overview – super cycle is over • Current China economic snapshot • Exports at 8 month lows • Car sales down 7.5% Sept to Oct • Net exports – negative in 2011 • Increasingly anti-reform • environment (dodgy companies) Key concept velocity of deterioration

  7. China Overview – Copper as HiddenLever Copper has been in lockstep with Chinese markets this year. Chinese A-Shares Index divergence from Copper told of impending doom

  8. China Hard Landing Housing Overheated

  9. China Housing • Past decade: • Private housing development began in 1998 • Housing price index – up 70% since 2000 • RE investment + construction =12% of China GDP • Average housing prices have tripled from 2005-09 • On the ground intelligence: • Property developers experiencing credit crunch – govt funding restrictions, property loans drying up • 64 million vacant apartments nationwide, still more vacant residential property being built • Companies in other industries making real estate divisions, diverting investment away from core business • Second home purchases in Beijing have been banned. Current stats: Real estate transactions in Sept/Oct are down 40-60% 120k unsold properties in Beijing – highest number in 30 months Ratio of home prices to annual household income: 4-5 in 1st world economies 10 in China

  10. Historical comparisons – USA 1996-2006 • Similarities: • Chinese banks are reporting record profits, but MSCI China Financials index is down 21% in 2011 • Extraordinary credit boom – 700bill USD over 3 years • RE investment + construction =12% of China GDP • Good Differences: • Heavy down payments, not as much leverage • Loans to homebuyers and property developers: - 17% for Chinese banks • - 56% for US banks • US kept lowering interest rates as housing peaked, China is raising rates • Bad differences: • 30% annual pace of loan growth, unprecedented • Credit raised to 200% of Chinese GDP – on par with roaring 1920s USA. • Credit in US during boom only rose 42% Aftermath subprime crisis

  11. Historical comparisons – Japan 1982-91 • Similarities: • Extraordinarily high savings rates • Undervalued exchange rates led to export growth • 1988 talk about Japan overtaking USA same as 2010 talk of China overtaking USA • Good Differences: • China A-shares market not inflated like 1980s Nikkei • 25% of China buyers pay cash, savings financed boom • Average household debt: • -China 2011: 35% of income. • -Japan 1990: • 130% of income 100% rise in 2 years • Lessons from Japan monetary policy • Japan caved into American demands to appreciate Yen.. • Japan hard landing + deflation problem often attributed to controlling currency for so long. • China now letting currency appreciate, and Obama calling for more. Aftermath lost decade

  12. China Hard Landing Inflation + currency Woes

  13. China Currency and Inflation Link Yuan and Chinese inflation have moved in lockstep over time, opposite conventional wisdom!

  14. Strong Yuan empowers Chinese consumers, hurts exporters Strong Yuan should lower import prices, but it's not. China has allowed the Yuan to appreciate, but not helping curb inflation? Weak Yuan hurts Europe/US No easy way out of this box Yuan/Inflation Link Implications

  15. China Hard Landing Europe debt crisis affect on china

  16. China's Europe Exposure: Trade + Euro Holdings 25% of China's foreign reserves held in Euro instruments as of late 2010 = $800B in Euros and Euro-denominated securities China's 2011 Euro-zone Exports = $400B EU is China's Largest Single Trading Partner

  17. China's Europe Exposure: It's the Debt, not the Trade Net exports are a small part of the China story at this point.

  18. European recession won't greatly affect China's growth, since it's mostly internal now China may buy Euros and Euro debt to protect exporters and its own holdings Could experience big foreign reserve losses if Euro falls or PIIGS default Question now is not how the world affects China – how does China affect the world? China's Europe Exposure: Summary Europe Exposure: $800B in Euro + debt exposure $400B/yr Euro zone exports

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