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China – Why an Unpopular Policy Measure Might Work

Please see the below article from EPIC Investment Partners:

China’s top legislative body is set to approve a substantial fiscal package next week, as Beijing moves to address its economic challenges. According to sources familiar with the matter, the NPC is considering approving the issuance of over CNY10tn (approximately USD1.4tn) in extra debt over the next few years. 

The comprehensive package is expected to include CNY6tn in special sovereign bonds primarily aimed at addressing local government debt risks, and up to CNY4tn in special-purpose bonds for land and property purchases over the next five years. This measure aims to enhance local governments’ ability to manage land supply and alleviate liquidity and debt pressures on both local governments and property developers.

The timing of the NPC’s meeting, which is scheduled for November 4-8 and coincides with the US presidential election, suggests that Beijing is keeping a close eye on the election outcome. The sources indicate that China may announce a stronger fiscal package if Donald Trump, who has vowed to impose 60% duties on imports from China, wins a second term.

While the proposed fiscal stimulus is significant, it falls short of package deployed in 2008 during the global financial crisis, which accounted for 13% of China’s GDP at the time. The current stimulus package is expected to amount to around 8% of the world’s second-largest economy’s output.

Analysts have noted that the policy priorities appear to focus first on addressing local government hidden debt, followed by financial system stability and then supporting domestic demand. In that order. We have sympathy with those who have expressed concerns that the stimulus measures may not be sufficient to substantially improve the economic growth outlook or address the ongoing deflationary conditions. What are really needed are concrete measures to stimulate domestic consumption via trade ins payments and other such incentives.

Or cut deposit rates to zero. While the latter would be a radical and very unpopular move, that fact is that Chinese household savings are absolutely massive and doing nothing to help the situation. Quite the opposite. This is effectively what happened in most major economies during both the GFC crisis and Covid era. This would also underpin the banking system’s profitability which would be no bad thing at all.

The proposed fiscal package reflects the urgency in Beijing to shore up the economy and mitigate the impact of the ongoing property sector crisis and local government debt issues. As China navigates these challenges, the outcome of the US presidential election could have significant implications for the country’s economic policies and the size of the stimulus measures.

Please continue to check our blog content for advice, planning issues and the latest investment, market and economic updates from leading investment houses.

Andrew Lloyd

31/10/2024

Please see the below article from EPIC Investment Partners detailing their discussions on the latest Job Openings and Labour Turnover Survey (JOLTS) data. Received this afternoon 30/10/2024.

Bloomberg published an article yesterday downplaying the latest Job Openings and Labor Turnover Survey (JOLTS) data. However, dismissing this report could be a mistake. The September figures revealed a substantial drop in job openings, falling by almost 400,000 to 7.44 million from a revised 7.86 million in August. This signifies a notable shift in labour demand, suggesting that businesses may be scaling back hiring plans due to economic uncertainty or financial constraints.

While JOLTS has its limitations, with a sample size of just 0.6% of establishments and a response rate of around one-third, a decline of this magnitude warrants closer scrutiny. It hints that employers are adjusting their recruitment strategies, potentially marking a turning point where demand for workers begins to cool.

Some argue that the survey’s limited scope makes it an unreliable barometer for the broader labour market, particularly given its lower response rate compared to payroll data, which surveys approximately 122,000 establishments. However, even with its limitations, JOLTS can offer valuable insights into emerging labour market trends, especially when it reveals shifts as significant as this. Ignoring these early warning signs risks missing the opportunity to understand potential inflection points in the economic cycle.

For instance, a softer quits rate – which fell to 1.9%, its lowest since mid-2020 – indicates that workers may be less confident about changing jobs. This hesitancy could suggest an underlying cooling of the labour market, even if payroll data continues to show job growth.

Friday’s non-farm payroll figures, and particularly the unemployment rate, will arguably provide us with a better measure of labour market conditions. However, it is worth noting that the Federal Reserve, with its “dual mandate” of price stability and maximum employment, is now focused primarily on the job market. This means the risks for the market are not symmetric. If the NFP data is as expected, the Fed will likely continue its easing mode. But if the data comes in much weaker, the Fed might opt for more aggressive easing measures than the market currently anticipates. This asymmetrical response highlights the importance of monitoring labour market indicators such as JOLTS, as they can provide valuable information about the underlying job trends well before the more widely followed payroll data.

Please continue to check our blog content for advice, planning issues and the latest investment, market and economic updates from leading investment houses.

Alex Clare

30/10/2024

Please see the below daily update article from EPIC Investment Partners received this morning 29/10/2024:

A $20 billion renewable energy corridor connecting Australia and Singapore looks likely to proceed after Singapore’s Energy Market Authority deemed the project technically and commercially viable according to the operator, Australia’s SunCable. The company’s Australia-Asia Power Link plans to send 1.75gW of renewable electricity to Singapore via a 4,300km submarine cable. This equates to around 9% of Singapore’s current consumption. 

The rapid development of AIDCs (Artificial Intelligence Data Centres) is set to be a particularly important swing factor in the rate of growth of global electricity demand. With that in mind we were extremely interested by a recent Jefferies note comparing power tariffs (in USD/kwh) around the world. Qatar ($0.04, gas), Iceland ($0.07, geothermal) and Russia ($0.08 gas) have some of the lowest tariffs thanks to abundant domestic resources. 

In stark contrast Italy ($0.58), Poland ($0.53), the United Kingdom ($0.43) and Singapore ($0.34) need to import the raw materials or purchase electricity from their neighbours. Of course it is not always the price that matters, the resilience of supply is also a critical factor. This explains, in part, the increasing interest in small nuclear reactors.

Malaysia ($0.12) is in prime position to assist Singapore. For a start Malaysia has 40% excess power capacity (circa 15gW). It also has acres of cheap land, adequate water resources and is adjacent to Singapore. That said, the Germans and Poles might warn against becoming reliant on one supplier! 

Relations between Singapore and Malaysia have had their moments going back all the way to the break away of Singapore in 1965. 

Please continue to check our blog content for advice, planning issues and the latest investment, market and economic updates from leading investment houses.

Charlotte Clarke

29/10/2024

Please see the below article from Tatton Investment Management detailing their thoughts on markets over the past week, received this morning:

Markets in brace position

Markets are bracing for some big upcoming events: the UK autumn budget, and a knife-edge US presidential election. Trading volumes could fall as a result, causing volatility, but that shouldn’t detract from the positive long-term outlook.

The Chancellor, Rachel Reeves, confirmed a change to how UK debt is counted, allowing the government £50bn in extra borrowing. Some derided this as a ‘moving of the goal post’ tactic, but public debt definitions are always a bit arbitrary and change often. Bond markets didn’t seem to mind – perhaps because the US government has a similar rule. The good news is that this should mean fewer tax rises and more money for long-term investment. This budget is starting to look like the opposite of Liz Truss’s “mini” budget: anxiety in the build-up, but very little market impact in the event.

Meanwhile, European growth is struggling. Thankfully, the ECB has taken note, and last week moved into outright supportive mode – after previously promising to keep interest rates “neutral”. That will help risk assets and, hopefully, the economy. European exporters will be hoping for a rebound in Chinese demand too, following Beijing’s stimulus announcements. We still don’t know what shape the stimulus will take, but China’s stock market was one of the best performers last week.

The US corporate earnings season is going about as expected. There were some positive earnings ‘surprises’ from big tech companies, but these are always a bit artificial (companies guide down expectations to beat them). Bond yields rose, however, making stocks look slightly more expensive in valuation terms. It seems like bond traders are taking note of the threat that Trump’s proposed tax cuts pose to US fiscal sustainability. They aren’t panicking, but just covering their positions to brace for some potential risks. 

Market liquidity dried up a little as a result. That will likely make small moves feel bigger, potentially causing volatility. If so, long-term investors should remain focussed on a broadly positive economic outlook.

Can the goldrush continue?

Gold prices keep breaking to new highs. Since gold is the classic ‘safe haven’ asset, some think this portends global risks – but that’s at odds with the benign economic outlook. Strangely, gold is surging while inflation is falling, when you would expect it to be the other way around. Investor risk appetite is generally strong, so there doesn’t seem to be a ‘fear factor’ in gold’s rally. 

We often compare gold prices to real (inflation-adjusted) US bond yields, because they represent the available risk-free economic return, and gold is considered a stable store of value. People buy gold when the economy struggles, and risk assets when growth is strong. That’s why gold and real yields are historically correlated – but that relationship has completely broken down of late.

One reason is that emerging market central banks have bought considerable amounts of gold in recent years. Russia being frozen out of the dollar-denominated financial system prompted other developing nations to diversify their dollar holdings, out of fear it could happen to them. Chinese buyers are another key source of gold demand. Through China’s economic malaise, citizens have been buying gold as a means to keep money wealth away from a government they are wary of.

The final factor is simple upward price momentum – which has become prominent in the age of trend investing, but can swing down as quickly as it does up. The Chinese government is now stimulating its economy, so Chinese buyers could well drop off, and central bank purchases will inevitably wane too. 

Gold often gets headlines, but investors should be wary of it as a long-term investment. It is far from a ‘safe haven’ in terms of returns, which is why we prefer to invest clients’ money in more predictable assets like stocks and bonds.

Argentina on the narrow path to progress

Argentine president Javier Milei is a self-described “anarcho-capitalist” who promised a radical economic experiment when coming into office 11 months ago. His first task was quelling a hyperinflation spike that peaked at 25.5% month on month in December, and he has since dropped that to 3.5%, the lowest monthly gain since 2021. His main method has been to “take a chainsaw to the state”, slashing public spending (including, incredibly, closing down and reforming the tax collection agency). But, the chainsaw has cut economic growth too: the IMF forecasts Argentina’s economy to shrink 3.5% this year. Remarkably, confidence in Milei’s administration is faring no worse than previous presidents at this stage.

That might be because Milei has been more pragmatic than his campaign rhetoric suggested. He planned to remove the Argentine peso and get the whole economy using US dollars, but the central bank seems to have accepted a dual currency system. That is wise: Argentines use US dollars in everyday life, but full dollarisation would be impossible without a hard-fought funding agreement with Washington. The central bank has instead soothed inflation by projecting monetary discipline and regaining control of the money supply. The gap between Argentina’s official dollar exchange rate and the black market rate has come down to 20%, from 60% in January.

The light at the end of the tunnel is that the government is expected to run a primary budget surplus this year. Spending cuts have been sharp, with the aim of building domestic savings and balancing capital flows – which seems about to pay off. From that point, the government can stop compressing fiscal policy and unlock Argentina’s undeniable growth potential. We shouldn’t overstate the progress; Milei’s policies are still unproven, but the government is on a narrow path to success. That in itself is a surprise.

Please continue to check our blog content for advice, planning issues, and the latest investment market and economic updates from leading investment houses.

Andrew Lloyd

28/10/2024

Please see below, EPIC Investment Partners’ Daily Update, which is focused on yesterday’s release of the Federal Reserve’s Beige Book, which summarises information on the US economy. Received this morning – 24/10/2024

The Federal Reserve’s Beige Book, published yesterday, offers a sobering assessment of the US economy, suggesting that the recent 50 basis point interest rate cut may not be enough to avert a downturn. The report, a collection of anecdotal evidence from the Fed’s 12 districts, reveals a marked slowdown in activity, with only three districts reporting growth and three actually contracting. This paints a starkly different picture from the robust growth seen earlier this year, and better than expected employment data recently, raising concerns about the resilience of the US economy in the face of persistent inflationary pressures and global headwinds. 

The manufacturing sector, a key driver of economic growth, appears particularly vulnerable. The Beige Book highlights declining output across several districts, with businesses citing weakened demand and supply chain disruptions as key factors. This weakness in manufacturing is mirrored by a softening in consumer spending, with evidence of consumers “trading down” to cheaper alternatives. Such behaviour is often a harbinger of broader economic malaise, as consumer spending constitutes a significant proportion of US GDP. 

While the recent rate cut has injected some optimism, the Beige Book suggests that businesses remain hesitant to invest, despite the lower cost of borrowing. This reluctance reflects a deep-seated uncertainty about the economic outlook, which is further compounded by volatility in energy prices and uncertainty surrounding the upcoming Presidential elections. The housing market also presents a mixed picture, with high mortgage rates continuing to deter buyers despite increased inventory.  

One of the few bright spots in the report is the labour market, with most districts reporting stable to modestly increasing employment. However, even here there are signs of softening demand, with some businesses implementing hiring freezes and others reporting an increase in the number of applicants for open positions. Wage growth remains moderate, although there are pockets of upward pressure, particularly for skilled workers.  

The Beige Book’s regional breakdown reveals a mixed picture, with some districts showing greater resilience than others. The Boston and New York districts, for example, reported little change in overall economic activity, while the Philadelphia and Minneapolis districts experienced slight declines. The Richmond district was a notable exception, reporting modest growth driven by increased consumer spending and manufacturing activity. However, this positive development was tempered by the impact of Hurricane Helene, which caused significant disruption to businesses and residents in parts of the district. 

The report presents a worrying picture.  Although the Fed’s shift towards rate cuts improves the outlook, the risk of recession persists, particularly with interest rates still above neutral.  As the Fed has already embarked on a rate cutting cycle, we think a recession should be avoided, but it is not yet a certainty.

Please continue to check our blog content for the latest advice and planning issues from leading investment management firms.

Alex Kitteringham

24^th October 2024

Please see the below article from Brewin Dolphin detailing their thoughts on the latest economic data and the possibility of a soft landing. Received yesterday 22/10/2024.

New Highs for U.S. Stocks

Global markets are buoyant, with the S&P 500 index and Dow Jones Industrial Average reaching new record highs last week.

Despite mixed corporate earnings results, sentiment is broadly supported by good news on inflation, better-than-expected U.S. economic data, and the backdrop of interest rate cuts.

As is the case in every earnings season, there is stock-specific volatility related to the earnings outlook guidance (a company’s public estimates of its current quarter and future earnings), which tends to have read-across implications for the sector.

Standout positive performance this quarter came from U.S. banks. Key players including Goldman Sachs, Morgan Stanley, JP Morgan, Citi, and Bank of America delivered strong earnings that handsomely beat analysts’ expectations, resulting in a boost to their share prices.

Revenues were boosted by trading activities and deal-making, thanks to volatile markets over the summer and investor sentiment becoming more bullish as interest rates come down. The resilience in net interest margins is a relief to bank analysts, and the improvement in capital market activity is likely to be a more dominant driver of returns going forward.

In addition, commentary from bank CEOs on U.S. consumers is reassuring, which is music to investors’ ears. Indeed, last week’s U.S. economic data related to consumers and the labour market provided more reasons to be cheerful. For instance, U.S. retail sales expanded at a healthy pace in September and initial jobless claims dropped after a spike induced by Hurricane Milton.

Earnings season: The haves and have-nots

Things don’t look as good in the Eurozone. Not only did economic data weaken, but the area’s top stocks were threatened by external concerns. The Louis Vuitton Moët Hennessy (LVMH) stock price plunged, as the company reported a 5% fall in its key leather and goods division in the third quarter. LVMH has also flagged the strength of the Japanese yen as one of the main reasons it suffered lower sales.

The luxury sector is the crown jewel of the European equity market, but it faces tougher times when its biggest customers (Chinese consumers) are struggling economically, and wild currency fluctuations are working against it. Chinese stimulus is seen as a ray of hope for the luxury sector, but the real impact will take time, and aspirational consumers of luxury goods are likely to remain cautious. The near-term outlook for LVMH remains cloudy but it’s a well-diversified luxury behemoth with irreplaceable brands.

The haves (true luxury) and the have-nots (affordable luxury) of luxury brands may see more differentiated outlooks, with consumers preferring to spend their tighter budgets on true luxury brands that tend to hold value in the second-hand market.

Last week, we saw a tale of the haves and have-nots in the semiconductor industry too. ASML, the Dutch chip equipment maker, saw its share prices plunge more than 20% after issuing highly disappointing 2025 revenue guidance that was less than half of what the market was expecting. As it holds a monopoly on the machines for chip foundries like TSMC, Samsung, and Intel, the disappointing results naturally raise concerns for the sector given the close-knit nature of the supply chain.

There are some company-specific issues. It’s tougher when one of your most important customers (again, China) is facing export restrictions to the point you can’t sell your most profitable gear to them anymore. A lot of sales to China were frontloaded, meaning an influx was made at the start of the period, which will not be repeated in 2025. But ASML’s results also highlight the stark contrast in artificial intelligence (AI) versus non-AI chip demand. ASML CEO Christophe Fouquet said, “Today, without AI, the market would be very sad, if you ask me”.

After ASML’s disappointing results, which helped wipe billions off the chip sector’s market capitalisation, TSMC’s robust outlook guidance on AI demand came to the rescue. TSMC is the best-positioned foundry to benefit from the surge in AI chip making, thanks to its advanced technology and global expansion plans. Its shares bounced 13% on the day and lifted other AI-beneficiary chip stocks like Nvidia, Micron and Applied Materials.

When Chinese officials talk, the world listens

The latest Chinese economic data, including inflation, loan growth and export data, disappointed. Third quarter gross domestic product (GDP) slowed from 4.7% to 4.6%, putting China’s 5% growth target at risk. On the bright side, retail sales, industrial production, and fixed asset investments all came in better than expected. However, investors are unlikely to be satisfied with the pace of recovery in China.

Officials are desperate to be seen as working around the clock to support the economy. It’s not common for officials to host press conferences every other week, or even days. Overall, the latest stimulus updates have underwhelmed, as there are no new details on stimuli on the consumer side. Also, there were no specifics on the debt and deficit increase.

On the positive side, there’s certainly willingness and room to do more. The key focus areas of the briefing, including housing market support, replenishing bank capital, and local government funding, are the right ones to tackle. It’s clear the budget deficit will increase and more borrowing at state and local government levels will be needed. Capital injection into state banks is essentially the state underwriting credit risk to allow banks to lend to riskier areas, allowing capital to flow into the real economy.

We’re hopeful that more stimuli will be coming. We think policy is heading in the right direction, but implementation is key. China’s housing market can’t be fixed in a short period of time. At the very least, the economy should stabilise, and the incremental benefit of the stimulus package should be felt more beyond 2025.

Markets are likely to remain volatile in China due to its retail-driven nature and understandable scepticism amongst international investors. We’re giving the Chinese market the benefit of the doubt this time, as valuations remain low, which acts as a buffer.

Falling inflation gives green light to rate cuts

The European Central Bank (ECB) cut interest rates for the third time this year. The markets’ reaction was relatively muted, as it was widely expected and fully priced in by the bond market.

The ECB refrained from outright dovish communication, as wage growth figures remain higher than desired. But the markets’ interpretation is that another cut in December is highly likely, as the ECB sounded slightly concerned about growth while stating the disinflationary process is well on track.

We knew prior to the meeting that inflation in key Eurozone economies has weakened notably. We also saw economic data worsening in the two largest economies in the area. As the ECB now has a more constructive view on inflation reaching its 2% target, we believe the ECB will continue to have an easing bias, even though it hasn’t changed its official forward guidance.

We believe the ECB will continue to deliver a series of rate cuts through to at least mid-2025, as growth concerns rather than inflation will dominate. In fact, markets are increasing bets that the ECB may cut by half a percentage point in December 2024.

Further rate cuts by the ECB are helpful to equities in the region, but the near-term outlook is more dependent on earnings results and details on Chinese stimulus measures.

Turning to the UK, where inflation pressure is perceived to be stickier and hence more of a constraint for the Bank of England (BoE) to cut aggressively, the latest inflation and wage data supports another rate cut as soon as November.

UK consumer price index (CPI) inflation fell to 1.7% in September, below analysts’ expected 1.9%, and well below the BoE’s Monetary Policy Committee’s forecast of 2.1% made back in August.

Core CPI inflation, which excludes energy, food, alcohol and tobacco, rose by 3.2% in September, lower than estimates of 3.4%. Although weaker air fares were a big driver of the decline, there is a broader story of weak inflation in these numbers that will encourage the BoE to cut interest rates.

Ignoring the biggest individual categories of inflation, the better news was that the median inflation category only saw prices increase by 0.2%, the lowest since 2021. Meanwhile, UK average weekly earnings ex-bonus growth slowed to 4.9% from 5.1% year-on-year.

All in all, the latest data would allow BoE Governor Andrew Bailey to be more aggressive with interest rate cuts, as he suggested in a recent interview. This probably means increasing the cadence of interest rate cuts rather than making a U.S.-style 0.5% cut. This supports our current stance of being overweight in UK gilts, as the markets’ pricing of rate cuts in the UK has the potential to be more aligned with the pricing of rate cuts in the U.S.

For major Western central banks, the bias has clearly shifted to supporting growth rather than fighting inflation. Easier monetary policy is the key economic theme going into 2025 that should support consumer, business and investor sentiment.

Please continue to check our blog content for advice, planning issues and the latest investment, market and economic updates from leading investment houses.

Alex Clare

23/10/2024