ANDBANK RESEARCH Global Economics & Markets
Overconfidence or, too worried?
Alex Fusté Chief Economist alex.fuste@andbank.com +376 881 248
Working paper - 77 For now, Investors’ fears about a collapse in China’s economy can be put off for yet another year. July 16, 2014
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China – An economic success with just Fine Tuning?
GDP stabilized during the Q2 through the use of fine tuning that is far from large-scale economic stimulus. GDP growth in the second quarter picked up slightly to 7.5%, beating expectations it would be flat at 7.4%. Pieces of good news: i. Fixed asset investment and industrial production continued to pick up • Foreign Direct Investments continue their upward trend: 16th straight month of inflows. $14.42B in June (up form $8.06B in May). Cumulative 1H2014 at $63.3B. Year on Year growth at a 2.2%. Street Account Data • Gross Fixed Asset growth at a healthy pace (+17.3% y/y in 1H14. Up from 17.2%). Encouragingly, much of this pick-up came from the private –manufacturing- sector. • Official & private Manufacturing PMI on the upside: Official At 51 (from prior 50.8). Six-month high. The HSBC PMI at 50.7 (from 49.4). First reading above 50 this year. • Fears that widespread corporate defaults would strain the banking system have not been realized Pieces of bad news: i. Consumer spending weakened after holding up well in Q1.
Current Government’s strategy. The PBoC has turned rather dovish: PBoC eased monetary policy and the bond market was grateful. Authorities have loosened the loan-to-deposit ratio (leading to a rebound in credit in May & June to keep pace near the 15% y/y). PBoC target for credit growth is 18% or so. New Stimulus: China will spend over $50B on 14 railway projects as it aims to transform the transportation sector. Projects represent a total 3.700 km.
Some hard data to widen our vision. New loans in June 1.08T (up from 870B in May). Loan growth at a sustainable 14% y/y M1 +8.9% y/y. M2 +14.7% y/y Fx Reserves $3.99T (vs $3.95T in May)
China – So far, reforms have not been negligible and continue to develop.
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Reforms & Financial markets. Investment quotas: The government continues steady in the expansion of investment quotas (opening of the capital account). • The outstanding amount of China’s dollar-denominated QFII (Qualified Foreign Institutional Investor) program stood at $56.5B in June (from $55.7B). • The standing amount under the Renmimbi QFII program also rose (to $40.33B) Regulator to streamline M&A process: (1) Listed companies will no longer need regulatory approval for asset restructuring programs. (2) Listed companies no longer need to provide profit forecast when acquiring assets. PBoC approves the launch of the first swap contract for coal and iron ore. This will provide: • More influence to China over the price of a key commodities, posing threat to the coal and iron-ore swap contracts cleared by the Singapore Exchange and CME. • Industry participants new financial tools to hedge the risks of volatile prices. Shanghai FTZ is reducing restrictions on foreign investment, trimming the number of restricted sectors to 139 from 190. Some foreign investors were initially disappointed with the number of restricted sectors.
Reforms & Currency. New clearing banks: The PBoC is set to designate clearing banks for its currency in Paris and Luxembourg as it continues to push to make the Yuan a global currency and gain ground in the battle to win a major share of business in cross-border transactions’ settlement. The end of the intervention? The PBoC strengthened its daily central parity rate to 6.1523 per dollar and the yuan rose again in its longest wining streak since January, touching a 12-week high at 6.20.
Reforms & GDP: Changes in the methodology for calculating the GDP R&D flows into the GDP: The Statistics Bureau plans to include R&D spending in the calculating methodology for GDP. The change will lead to a rise of the aggregate economy and growth. China spent almost $200B in R&D (what represents a 2.4% of GDP), stressing that the R&D activity grew at a 15.6% y/y in 2013.
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China – The situation en the most sensitive sectors tends to normalize.
Tensions in the MM? No tensions in the MM sector: The PBoC resumed selling repos to drain funds from the system, driving the MM rates to a 3-months high. The Bank sold 20B Yuan ($3.2B) of 28-day repos at 4%. The seven-day repo rate jumped 45bps to 4.45%% in May and making the 8th straight month of slowing growth). But the day after, the same repo rate fell 54bps since cash demand declined after banks met their quarter funding requirements
Property market. Sales slump but only in the Capital: New home sales in Beijing have slumped this year by 48.8% y/y, hitting the lowest mark since 2005. Rising prices have weighted on the cooling housing market. Inventories at 18-month high: Dwindling sales volume and a sharp increase in property construction during the 1Q14 (+70% y/y) has driven the Beijing’s housing inventory to a 18-month high. At national level, property sales were flat in Q2. A sign that the recent correction may not be prolonged? Prices continue easing moderately: Prices of new homes in 288 cities fell 0.06% m/m in June (the third drop in a row). The fall in prices still does not affect to the y/y magnitude (housing prices rose a 5.3% y/y in June -from 5.8% in May-) although represents the 8th straight month of slowing growth). What are the prospects for prices? Property developers in two of the Chinese cities were sales are weaker, are offering home buyback options far above the purchase price. • In Hangzhou, Shanheng Real State Group is giving homebuyers an option to sell their apartments in five years for 40% above the purchase price. • In Wenzhou, Do Think Group is offering homebuyers an option to sell their apartments in three years for 120% above the purchase price. A strategy to maintain sales targets? A suicide? Or a clear sign of confidence that the sector will not sink and that prices will continue to rise? Maybe a combination of all the above? Who knows!
Next Defaults at sight. Qilu Bank is suing LGFV (a local government financing vehicle) over unpaid debt on a $5.7M outstanding loan.
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China – About China’s rapid debt build-up & the government’s main challenges
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We see no imminent risks from China’s debt build-up (an aspect of great concern in the West): Indeed, private leverage will expand again in 2014. With credit growth expected at 18% pace by year end, and nominal GDP at around 10%, the national leverage will continue to expand, with the total credit-toGDP ratio increasing to around 240%. Nevertheless, there are some few aspects to be considered: • The net leverage is much lower if you count the $4T in strategic reserves (which accounts for 50% of GDP) • Public leverage is non existent (with a central government’s Gross debt to GDP ratio at around 22%, but with a lot more assets that makes the net figure negligible). • It is relatively easy for the Authorities to stay within budget. Fiscal revenue in H1 was 7.46T yuan (+8.8% y/y). Spending was 6.92T Yuan (up 15.8% y/y). Total surplus was 540B Yuan ($ 87B)
The government’s biggest challenge is to convince private sector businesses that the long-term growth will be robust precisely due to the economic reforms. So far, these reforms have not been negligible but have not been enough to fundamentally change the private sector’s outlook since private investment remains weak, with capital spending growth mainly supported by the state sector. Encouragingly, much of this pick-up came from the private –manufacturingsector. 60
IN D U S T RIA L P RO D U CT IO N Vs SE NT IM EN T - CHIN A (% Ch a nge Yo Y )
20 18
55
15
50
13 45
10
40 35
8 '05
'06
'07
'08
'09
'10
'11
'12
'13
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Sentiments And Surveys, Pmi: Purchasing Managers Index, Total Nsa - China (Left) (MOV 3M) Industrial Production, Value Added Of Industry, Total Nsa - China (Right)
Andbank, CMEI - China Monthly Economic Indicators
©FactSet Research Systems
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China – Financial Markets - Fundamental Outlook.
Outlook about the Equity market: Stable outlook Chinese Equities could do well: In the past, Chinese stocks have typically rallied by 10-15% yearly when the economy has emerged from a growth trough. But still seems early for that: The experts think that such a re-rating still looks unlikely this time round since many of China’s economic problems have yet to be solved and private sector’s outlook has yet to be changed. For now, EPS is gaining momentum: Chinese companies are expected to report a 10.6% earnings growth on average in 1H2014, compared with 8.1% in Q1. Mainland Equities trading at largest discount to HK shares since May 2006. This comes despite the government’s effort to allow HK investors to buy mainland securities. The lack of details on tax issues may be behind the spread.
Fixed Income: Stable to Positive outlook The PBoC has turned rather dovish and will continue so: Following a recent PBoC’s easing the bond market performed pretty well, with the 10Y yields falling 45bps to 4.05% in Q2 (the biggest quarterly gain since 2009). In our opinion, yields will remain stable or will decline further.
FX: Positive outlook (Long Term) After the designation of new clearing banks for the Yuan (in Paris and Luxembourg) the currency continues its path to become a truly global currency and gain ground the battle to win a major share of business in cross-border transactions’ settlement. Certainly not an insignificant issue. Apparently, the PBoC has completed its “brief” intervention to depreciate the Yuan. The PBoC strengthened its daily central parity rate to 6.1523 per dollar during the first half of the month, and the Yuan rose again in its longest wining streak since January, touching a 12-week high at 6.20.
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