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December 02 2016

Commentary by Eoin Treacy

China's Central Bank Is Facing a Major New Headache

This article from Bloomberg News may be of interest to subscribers. Here is a section:

People’s Bank of China Governor Zhou Xiaochuan already has one policy headache with the currency falling to near an eight-year low. He could have an even bigger one next month.

That’s when a $50,000 cap on how much foreign currency individuals are allowed to convert each year resets, potentially aggravating capital outflow pressures that are already on the rise. If just 1 percent of China’s almost 1.4 billion people max out those limits, that’s an outflow of about $700 billion -- more than the estimated $620 billion that Bloomberg Intelligence estimates indicate has already flowed out in the first 10 months of this year.

Middle class and wealthy Chinese have been converting money into other currencies to protect themselves from devaluation, exacerbating downward pressure on the yuan. Outflows could intensify if Federal Reserve interest-rate hikes fuel further dollar appreciation.

That leaves Zhou in a bind identified by Nobel-prize winning economist Robert Mundell as the “impossible trinity” -- a principle that dictates nations can’t sustain a fixed exchange rate, independent monetary policy, and open capital borders all at the same time.

"At a moment like this, you have to compare two evils and pick the less-worse one," said George Wu, who worked as a PBOC monetary policy official for 12 years. "Capital free flow may have to be abandoned in order to maintain a relatively stable currency rate."

 

Eoin Treacy's view -

The $50,000 limit of foreign transfers is per person, so a family with two parents, one child and four grandparents can send $350,000 overseas with no need to resort to more sophisticated methods of transferring funds. There are of course many alternative routes to sending money overseas. So far rules aimed at controlling flows have focused on corporations and purchases of foreign real estate in the order of $1 billion but the flow of retail funds on aggregate represents a very large figure overall. 



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November 30 2016

Commentary by Eoin Treacy

A China recovery is coming

Thanks to a subscriber for this article by Simon Hunt in copperworldwide.com. here is a section:

China’s economy is recovering. Accommodating monetary policy is being augmented by expanding the fiscal deficit which might include tax cuts. Construction is beginning to recover since total surplus inventory has fallen to the key seven-month level. The NDRC has released 25 infrastructure projects most of which were frozen earlier this year because cases of corruption were detected. Both wages and consumer spending continue to increase. In some key manufacturing sectors inventories have been reduced. Many private sector companies are now managing cash flow appropriately so are improving profitability. Investment will follow in 2017. Against this background real consumption of metals has begun recovering and will gather pace in 2017.

Eoin Treacy's view -

A link to the full note is posted in the Subscriber's Area.

One of the reasons China has been going through such a difficult time is because many of the markets it sends exports to have been in difficulty. The US credit crisis, the EU’s sovereign debt and banking crisis and the collapse of commodity prices all hit demand for China’s exports.   



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November 18 2016

Commentary by Eoin Treacy

Email of the day on Hong Kong listed Chinese shares

Most mainland China Indices are very strong; however, H-Shares continue to lag. Doesn't add up in my book; H-Shares should be going gangbusters. Any thoughts? 

Eoin Treacy's view -

Hong Kong listed Chinese shares, represented by the China Enterprises Index (H-Shares) outperformed the mainland market until about September and has been engaged in a process of mean reversion since. The Hang Seng Index did even better but has also pulled back more recently.



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November 16 2016

Commentary by Eoin Treacy

China's Yuan Tumbles to Eight-Year Low as Banks Weaken Forecasts

This article from Bloomberg News may be of interest to subscribers. Here is a section:

“The pressure for the yuan to decline could be stronger next year as Trump’s policies could lead to a dollar rally and amid concerns about China-U.S. trade relations," said Harrison Hu, chief greater China economist at Royal Bank of Scotland Group Plc in Singapore. "The People’s Bank of China can curb high volatility with stronger fixings and intervention, but it won’t do so unless outflows surge, as such measures could add great pressures to the foreign reserves."

A record $44.7 billion left China in September in yuan payments, while the nation’s foreign-exchange stockpile shrank the most since January last month. Chinese officials have taken a series of steps to plug capital control loopholes, such as a potential plan to curb transactions that use the bitcoin digital currency to take funds out of the country. UnionPay Co. late last month limited mainlanders from using its cards to buy insurance in Hong Kong.

HSBC Holdings Plc, UBS Group AG and Australia & New Zealand Banking Group Ltd. lowered their yuan forecasts on Tuesday, predicting that the currency will end this year at 6.9 per dollar, compared with earlier estimates of 6.8 for the first two lenders and 6.75 for the third. BMI Research, a unit of Fitch Group, downgraded its year-end forecast to 6.85 from 6.8, while Norddeutsche Landesbank said it has revised its view to 7 from 6.8.

Eoin Treacy's view -

The Dollar has been trending higher against the Renminbi since early 2014 but the pace of the advance has picked up following the US election. The rate paused at CNY6.4, 6.6, 6.7 but has surged through 6.8 this week. The Renminbi’s depreciation is part of Chinese government policy since it is needs a weaker currency to soften the blow from the rationalisation of heavy industry particularly in the steel, cement and coal sectors. However it will want to avoid an unruly decline and therefore the quicker the Dollar rises the greater the risk of some form of intervention. 



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November 07 2016

Commentary by Eoin Treacy

China Ousts Finance Minister Lou Jiwei as Xi Jinping Turns to Allies in Surprise Reshuffle

This article by Lingling Wei and Jeremy Page for the Wall Street Journal may be of interest to subscribers. Here is a section:

“Lou Jiwei’s abrupt ouster sends a strong signal that any prospects of even limited economic reforms are falling prey to President Xi’s focus on consolidating his power,” said Eswar Prasad, a Cornell University professor and former China head of the International Monetary Fund.

Since coming to power in late 2012, Mr. Xi has been moving away from the party’s decadeslong collective leadership model and centralized decision-making within a number of small committees he heads. Last month, he was named the “core” of the party’s leadership—a designation giving him an even stronger perch to influence the outcome of the congress in late 2017.

At that time, up to five of the seven current members of the Politburo Standing Committee, the top leadership body, are due to retire. In addition, more than 60% of the 376-seat Central Committee—which includes ministers, state industry chiefs and army generals—are expected to be replaced. Still, despite his consolidation of power, party insiders say Mr. Xi still has to vie with departing and retired leaders seeking to promote their own favorites.

 

Eoin Treacy's view -

With so many powerful positions becoming vacant over the next two years it is little wonder that Xi is attempting to ensure his favourites accede. Not only does it give him the potential to strengthen his own power base but perhaps even more importantly it gives him to the opportunity to encroach on the power structures of his adversaries. As a result we can anticipate a great deal of activity around which group within the Party will succeed in holding what positions. 



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November 07 2016

Commentary by Eoin Treacy

What drove the October ferrous rally?

Thanks to a subscriber for this report from Goldman Sachs covering the iron-ore market. Here is a section:

$/CNY was one of the most important market drivers of 2H 2015. When China weakened its currency in August 2015, it sent shockwaves around the globe with the S&P 500 index falling 10%. In the third quarter of 2016, $/CNY stayed range-bound between 6.6 and 6.7. In October, however, the depreciation resumed and $/CNY is now approaching 6.8.

The recent CNY depreciation is different from previous rounds of $/CNY moving higher. It has not generated the same international spillover effects as it did back in 2015. This implies further room for the Chinese government to weaken its currency against the US Dollar without negatively affecting global demand for its exports. On the other hand, the link between $/CNY and capital outflows remains strong. Our China Economics team estimated that FX outflows from China rose to US$78 billion in September and are likely to be even higher in October (Exhibit 7). This implies that there is an underlying desire among onshore investors to move into dollar-linked assets. Such desire may become particularly strong whenever the pace of CNY depreciation picks up. In fact, onshore commodities prices increased across the board on October 25 after the $/CNY moved higher for three consecutive days.

There are reasons why iron ore may be the first in line to benefit from onshore investment flows into commodities amidst renewed CNY depreciation. For example, the iron ore futures curve is almost always backwardated, making long iron ore a positive-carry trade. To the extent that a higher $/CNY also leads to a weaker local currency on a trade-weighted basis, iron ore may benefit from potentially higher Chinese steel exports. Additionally, rebar and iron ore are the most traded commodities in the onshore futures exchanges. Exhibit 8 shows the positive correlation between iron ore futures trading volumes and the $/CNY in recent months. By our estimates, about 60% of the iron ore price rally in October can be explained by the CNY depreciation.

Eoin Treacy's view -

A link to the full note is posted in the Subscriber's Area.

If the correlation between the appreciation in iron-ore prices and the deprecation of the Renminbi are indeed causal rather than coincidental that could continue to be positive for commodity prices considering how much a weak currency benefits China’s economy. 



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October 31 2016

Commentary by Eoin Treacy

China's Factory to the World Mulls the Unthinkable: Price Hikes

This article from Bloomberg may be of interest to subscribers. Here is a section:

China’s factories may be on the cusp of delivering a new shock to the global economy after years of undercutting rivals with cheaper costs. This time, increases in prices could reverberate around the world.

To understand why, consider the dilemma facing Jiangmen Luck Tissue Mfy Ltd., now caught in a squeeze between surging wages and tepid demand. The company has already slashed staff by half, shaved prices and automated production to survive. Now, with margins razor thin, it’s weighing the first price increases since 2010.

"There’s just no possibility for me to cut prices any more," says deputy director Roger Zhao, 52, whose company is based in the city of Jiangmen in southern Guangdong province.

"Because costs are already pretty high and I don’t see any possibility they’ll go down, I’m seeking opportunities to raise prices a little bit."

That push to recover lost margins -- even as demand remains muted -- was shared by exporters of everything from clocks to jacuzzis interviewed in Guangzhou last week at the Canton Fair, a biannual gathering where 25,000 exhibitors and 180,000 mostly foreign buyers ink export deals in booths spanning exhibition space equivalent to about 3,400 tennis courts.

For the world economy, decisions from companies like Jiangmen Tissue to stop cutting prices -- and even raise them where demand allows -- removes a source of disinflationary pressure. To be decided is whether China, the factory to the world, swings from becoming a drag on consumer prices to a source of pressure nudging them higher.

Eoin Treacy's view -

Chinese factories have been dealing with margin compression for years. Labour costs have been on a steady upward trajectory while commodity prices have been a mixed blessing. However right now both are increasing and despite the danger of losing their competitive edge the first signs of price hikes are emerging. This article from a couple of weeks ago highlights the first rise in China’s producer price index in nearly five years.  



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October 31 2016

Commentary by Eoin Treacy

Rio Gives Away Giant Iron Ore Field Once Worth Fighting For

This article by Thomas Biesheuvel for Bloomberg may be of interest to subscribers. Here is a section:

The writing has been on the wall for a while. The company took a $1.1 billion writedown on Simandou in February. New Rio Chief Executive Officer Jean-Sebastien Jacques said in August “there is no obvious way to take Simandou to the next phase,” and the company hasn’t been able to find a way to finance it.

“It cleans another dead asset off the portfolio,” said Hillcoat, who added that the market doesn’t apply any value to the asset. “In the brave new world we’re in now, you just can’t develop these projects.”

Guinea will want the new owner, also known as Chinalco, to fare better than Rio. The country is counting on the project to double the size of its $6.5 billion economy and turn it into the third-biggest exporter of iron ore. Earlier this year, Guinea blamed project delays on the “ramblings of the technical team in London,” a reference to Rio.

The parties should finalize the deal quickly to establish a new plan for Simandou’s development, Minister of Mines and Geology Abdoulaye Magassouba said in an e-mailed statement.

“This is a very positive event for the project, but we still have many months of work and major challenges ahead,” Magassouba said.

Before the deal was signed on Friday, Simandou was 46.6 percent owned by Rio, 41.3 percent by Chinalco, and 7.5 percent by the government.

 

Eoin Treacy's view -

Investors have lamented the inability of mining executives to conduct successful M&A activity and I’ve even heard more than a few suggest CEOs should be precluded from engaging in mergers as a condition of taking the job. Simandou is another example of a boondoogle project that was initiated when prices were high and abandoned when prices are bottoming. 



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October 05 2016

Commentary by Eoin Treacy

September 28 2016

Commentary by Eoin Treacy

China's Ambitious Plan to Make the Yuan the World's Go-To Currency

This article by Robin Ganguly and Cedric Sam for Bloomberg may be of interest to subscribers. Here is a section:

The world will only play along if China leaves the yuan alone

One of the basic definitions of a reserve currency is that it must be freely traded. And the yuan is not quite there yet. The People’s Bank of China is often suspected of intervening in the market to nudge its exchange rate one way or the other. The central bank also limits onshore daily moves to 2 percent on either side of a fixing that it sets. Then there are capital controls, which restrict the ability to move money out of the country.

Despite this, people have found ways to move money out to escape yuan depreciation pressures and a volatile stock market. An estimated $1 trillion has flowed out of China since September 2015.

The Federal Reserve Bank of Dallas suggested in July that the yuan failed a safe-haven test, finding that China’s currency underperforms as market volatility increases.

SDR inclusion is likely to prompt the Chinese government to push ahead with reforms to its
exchange-rate policy, as part of its efforts to bolster international usage of the currency. But challenging the dollar’s hegemony will take more than a while, with the memory of the shock August 2015 devaluation relatively fresh in investor minds. The greenback has maintained its dominance since the mid-20th century, fighting off competition from the yen and the euro.

After the IMF in 2010 rejected China’s request to include the yuan in the SDR basket, the nation took several steps to support its claim. It made the yuan’s fixing more market-based, allowed greater access to its bond market and closed the gap between the currency’s rates at home and abroad. In November last year, the IMF deemed that the yuan was freely tradable enough to become a global reserve currency.

In the long run, a stronger yuan could be a much-needed fix for the global economy as it would increase the purchasing power of China, the biggest consumer of commodities in the world.

 

Eoin Treacy's view -

I find it interesting that this article assumes the Chinese Yuan is likely to become stronger as reforms are instituted and the currency gains access to the IMF’s Special Drawing Rights. There is another way of thinking about the development. 



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September 06 2016

Commentary by Eoin Treacy

China's Productivity Growth is the Worst Since the Asia Crisis

This article from Bloomberg News may be of interest to subscribers. Here is a section:

Labor productivity in the world's second-largest economy increased 6.6 percent last year to $7,318 per person, National Bureau of Statistics and International Labour Organization data show. The level, calculated as average inflation-adjusted gross domestic product per employed person per year, measures the efficiency of workers economy-wide.

China kicked off a big surge in efficiency in the early 2000s after entering the World Trade Organization, implementing aggressive reforms to streamline state corporations and allowing more of a private real estate market. But even after those gains it still lags far behind more productive economies in Europe, Japan and the U.S.

 With a shrinking working-age population already hurting economic growth, China must boost the value created by each worker if it is to join the ranks of the world's wealthy economies.  The hope is that upgraded machinery, services sector advances and a shift up the value chain will help make workers more efficient--and maybe even shorten the  badminton lunches.

 

Eoin Treacy's view -

At over $7000 per person China is squarely in the middle income bracket of global economies. However that figure is distorted by the inequality evident within a population of over 1 billion where extraordinary wealth contrasts with profound poverty in the hinterland. If China is going to march towards continued standard of living improvements then productivity growth will need to continue and that will be contingent on government appetite for economic reform. 



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August 29 2016

Commentary by Eoin Treacy

Yuan Bears Emerge From Hibernation as Fed Threatens G-20 Calm

This article by Justina Lee for Bloomberg may be of interest to subscribers. Here is a section:

Derivative markets are pointing to renewed bets on yuan depreciation, with a three-month measure of expected price swings poised for the biggest monthly increase since January. Other indicators, such as the premium on options to sell the yuan over those to buy and the discount of forward contracts over the spot rate, have also climbed, indicating rising expectations for declines.

The increased pessimism comes after a period of calm that sent the measures to the lowest in at least nine months as the Federal Reserve held off on raising interest rates and investors bet that China would steady the yuan before it hosts a Group of 20 meeting in September. Traders are probing the People’s Bank of China’s willingness to allow the yuan to fall between the G-20 gathering and the currency’s entry into the International Monetary Fund’s Special Drawing Rights on Oct. 1, especially with the chances of Fed action increasing.

"After G-20 ends next Monday, the market may want to test how much yuan depreciation the PBOC can tolerate," said Gao Qi, a strategist at Scotiabank in Singapore. "China doesn’t want the yuan to move too much during G-20 and become a topic of discussion. SDR’s impact will be smaller than G-20." 

 

Eoin Treacy's view -

China is under the spot light as it prepares to host the G-20 summit next week and not least because it wants to use the event as an opportunity to showcase its newly found position as an economic superpower. However the fact the Chinese administration is engaged in a massive transition from an investment and export oriented business model to one more supported by internal consumption, services and high technology cannot simply be ignored. 



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August 15 2016

Commentary by Eoin Treacy

Emerging Markets Are Hot, Except for China

This article by Mia Lamar and Rachel Rosenthal for the Wall Street Journal appeared in Saturday’s edition but the authors might have wished they waited another day before publishing. Here is a section:

The wariness partly reflects how unnerved global investors remain by markets that have proved exceptionally unpredictable, even by emerging-market standards. After surging 60% in the beginning of last year, Chinese stocks tipped into a selloff that sent Shanghai’s benchmark index down as much as 41% from June to August. The index rebounded briefly last fall, then plunged 23% in January. The yuan, meanwhile, logged a 5% loss against the dollar in 2015, following an unexpected devaluation one year ago that helped to spur enormous outflows of money as panicked Chinese sent cash abroad.

Many investors say they are disturbed by steps China has taken to tame market convulsions, from heavy-handed currency intervention and the buying of shares by state-backed funds, to allowing widespread trading suspensions of shares and blaming “malicious” forces for stock-price falls.

Others say they remain concerned about China’s economic slowdown, and suspect conditions may be worse than official figures suggest.

Chinese officials have stressed measures by Beijing to address the concerns of global investors, and played down concerns about growth. “The Chinese economy is a ‘stability anchor’ for the global economy,” Premier Li Keqiang said last month. “Prophecy of China’s economy heading for a hard landing is rarely heard now.

Eoin Treacy's view -

Many of the limitations imposed on the Chinese market have been aimed at inhibiting speculation following a particularly tumultuous period in 2015. That is a condition which is in sharp contrast to the environment on a number of other international indices. 

Chinese regulators messed up the launch of options trading, and timing its debut with the opening of the Shanghai – Hong Kong connection only exacerbated the short term mania. In trying to avoid a crash they threw every measure available to stem the decline and there is plenty of evidence over the last six months that the 3000 level on the CSI300 is being defended. 



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August 08 2016

Commentary by Eoin Treacy

August 01 2016

Commentary by Eoin Treacy

Amazon Takes on Alibaba With Japan Portal for Chinese Shoppers

This article by Grace Huang and Reed Stevenson for Bloomberg may be of interest to subscribers. Here is a section: 

“The opportunity is huge,” said Jasper Cheung, president of Amazon Japan. “We have already increased the selection that we can export by the millions over the last several weeks.”

Chinese shoppers are looking for authentic Made-in-Japan products, spooked by tainted baby milk and fake merchandise proffered on web stores in China. While that’s helping to drive an influx of shoppers to Japan -- 3.08 million Chinese tourists have visited the archipelago so far this year, up 41 percent -- it’s also boosting demand for Amazon.co.jp, Wandou and other web outlets featuring Japanese goods.

Rakuten Inc., the Japanese online store, also lets people shop for stuff from Japan in Chinese, as well as in Korean and English. Amazon’s Japan website has been available in English for years.

The new iteration of Amazon Japan’s shopping portal, in simplified Chinese, offers millions of products with more coming, the company said. Consumers in Asia’s biggest economy are demanding access to authentic brands and quality, from clothing and cosmetics to baby products and health goods. That’s why Costco Wholesale Corp. has a shop on Alibaba’s Tmall.com, while Macy’s Inc. and other U.S. retailers are tapping into China’s dominant online-payments system by accepting Alipay on their sites.

 

Eoin Treacy's view -

For billions of new consumers entering the middle classes their first taste of consumerism is likely to be via their mobile phones where they are aggressively marketed to via Wechat, Facebook, Instagram and a host of other social media sites. That puts dominant online marketplaces like Amazon, Alibaba, Ebay and Rakuten in a favourable position to compete for their business and China represents a major battleground. Uber’s experience in China highlights the difficulty of doing business in that country where one is competing with a domestic copycat operation. Amazon’s strategy of building out its Japanese operation may act as a hedge to domestic Chinese operations where it competes directly with JD.com and Alibaba.  



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July 28 2016

Commentary by Eoin Treacy

Macau's Chief Sees 2017 Economy Returning to Growth on Casinos

This article by Daniela Wei for Bloomberg may be of interest to subscribers. Here is a section:

“Macau’s gaming industry and the whole economy will continue to adjust, but the decline may shrink to 7.2 percent this year and even resume growth in 2017,” Chief Executive Fernando Chui said in a televised session of the city’s legislature Wednesday. “It’s a good time for Macau to re-position after a 25-month gaming revenue drop.”

Gross domestic product in Macau declined 20.3 percent in 2015, worsening from the 0.9 percent drop the year before, as the world’s largest gambling hub was hurt by China’s anti-corruption campaign that scared off high-rollers. The casino industry, which accounts for half of Macau’s GDP, is in the midst of a casino building boom to boost revenue from mainstream gamblers and tourists.

Recreational Gamblers
Macau’s government is working with its six casino operators to “improve synergies” between gaming and non-gaming pursuits, Chui said. The city is trying to reduce its reliance on gambling and is targeting to raise the proportion of casinos’ non-gaming revenue to 9 percent by 2020 from 6.6 percent in 2014.

 

Eoin Treacy's view -

The outlook for the gaming sector and China are inextricably linked. Macau represents a much larger gambling market than even Las Vegas and that city also depends on the largesse of Chinese high rollers to drive profitability. With the outlook for growth improving in Macau that may be an initial sign that the Chinese tourist market is still healthy. 



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July 22 2016

Commentary by Eoin Treacy

Hong Kong Bears Pile Record Short Bets on China Consumer Stocks

This article by Kana Nishizawa for Bloomberg may be of interest to subscribers. Here is a section: 

Chinese consumer stocks are in the cross- hairs of Hong Kong’s short-sellers.

Bearish bets on Tingyi (Cayman Islands) Holding Corp. and Want Want China Holdings Ltd. soared to record highs since May, data compiled by IHS Markit Ltd. show. The instant noodles and snacks manufacturers, together with sanitary-napkin maker Hengan International Ltd., make up three of the four most-shorted stocks on Hong Kong’s benchmark index. Hengan this month spun off its food business into a separately listed unit that’s down 27 percent from its first close through Thursday.

Bears are betting that China’s shift toward an economy driven by middle-class spending will leave some consumer stalwarts behind. Even after valuations on Tingyi and Want Want fell to all-time lows at the start of the year, the stocks are still too expensive as Internet retailing helps foreign brands grab market share in China, according to Ample Capital Ltd.

Shoppers are showing a preference for healthier food, UOB Kay Hian Holdings Ltd. says. “Consumers have been changing their pattern to more nutritional products so their business growth is declining,” said Johnson Hu, a Shanghai-based analyst at UOB Kay Hian. “We don’t see that changing in the foreseeable future.”

Short interest in Want Want and Tingyi has risen to 7.6 percent and 4.9 percent of their outstanding shares as of Tuesday, Markit data show. Bearish bets in Tingyi surged to a record level this month, and those in Want Want are close to all-time highs last seen in May. The average of similar wagers for the 50 Hang Seng Index members was about 1.3 percent.

 

Eoin Treacy's view -

The evolution of online retail has had a dramatic effect on the ability of bricks and mortar stores in North America and now that pattern is likely to be repeated elsewhere as the convenience of online shopping trumps the toil of driving and walking to a store only to have to carry home the goods afterwards. The additional fact that diabetes is a major problem in both China and India suggests the potential for concerted drives to eat healthier more nutritious foods is more likely than not. 



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July 15 2016

Commentary by Eoin Treacy

Samsung in Talks With BYD to Buy Stake in Electric-Car Maker

This article from Bloomberg may be of interest to subscribers. Here is a section: 

BYD said Samsung has been actively pushing forward talks about buying its shares in a private placement. Talks are still underway, the Chinese company said, denying a report by the Korea Economic Daily that an agreement was reached to acquire a 4 percent stake.

Samsung is pursuing the investment after its affiliate was among foreign battery makers left off a list of suppliers approved by China, where sales of electric vehicles are surging and the government has sped up construction of charging points.

The talks with BYD also add to the global trend of technology companies and automakers collaborating as car buyers increasingly demand more advanced powertrains and features that improve connectivity and safety.

“It puts Samsung into the electric-vehicle subsystem supply chain for a key Chinese electric vehicle and battery manufacturer,” said Bill Russo, a Shanghai-based managing director at Gao Feng Advisory Co. “BYD gets a technology innovation pipeline partner with a reputable brand.”

 

Eoin Treacy's view -

China is the world’s largest car market. With a concerted government backed push into electric vehicles any company seeking to ride the wave to emerging automotive technology cannot afford to lose access to the market. Therefore BYD represents an attractive avenue for foreign investors. While in the USA Tesla sets the pace for what other companies are expected to provide, China’s state mandated vision for zero emissions represents an even more important influence on the market. Car companies have to try and build products for a global audience in order to keep costs under control. Therefore any company seeking to compete globally needs to have a foothold in China. 



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June 23 2016

Commentary by Eoin Treacy

The Brexit hoopla has diverted our attention from the real problem

This article by Elena Holodny may be of interest to subscribers. Here is a section:

"There is an argument that global investors have overly focused on Brexit at the expense of other more important macro events, "the perma-bear wrote in a recent note to clients.

"We believe China's ongoing stealth devaluation of the renminbi is far more important for the global economy."

The renminbi has been pretty stable against the US dollar this year, so many have missed that it.
Yet China's trade-weighted currency basket has dropped by about 10% since right before the August, which you can see in the chart shared by Edwards below.

(For what it's worth, Julian Jessop of Capital Economics pointed out the same interesting detail back in May, arguing that the "stealth devaluation" was an "important nuance that many have missed.")
As for what the significance of this is, here's Edwards again:

"The Wall Street Journal has reported that this is a deliberate shift in policy link. China is now exporting its deflation, and my goodness it has a lot of deflation to export. In the Ice Age world, countries need to devalue to avoid deflation. So if sterling slumps in the aftermath of a Brexit vote there may be at least one silver lining outside the EU if the UK economy manages to avoid the quagmire of outright deflation."

 

Eoin Treacy's view -

This is a tumultuous week and many markets have been subject to a great deal of volatility but next week will bring us back to the debate of central bank liquidity and how well it offsets concerns about corporate profitability. 



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June 15 2016

Commentary by Eoin Treacy

MSCI Rebuffs Chinese Equities for Third Time in Blow to Xi

This article from Bloomberg News may be of interest to subscribers. Here is a section:

“The MSCI decision signals that China remains a closed emerging economy that uses market techniques like freezing the market and making it illegal to short, using government funds to buy shares -- techniques that are not welcome among global investors,” Paul Christopher, head global market strategist at Wells Fargo Investment Institute, said by phone. “There are a number of market reforms in progress, but these are the decisions MSCI would want to wait for and examine.”

MSCI’s ruling won’t affect the nation’s capital market reforms, Deng Ge, a spokesman for the China Securities Regulatory Commission, said in a statement on the regulator’s website. Indexes that don’t contain A shares are incomplete, according to the statement.

 

Eoin Treacy's view -

The fact Chinese indices both on the mainland and in Hong Kong had been declining ahead of the decision suggests investors were not pricing in the possibility that MSCI would decide in China’s favour. However what does appear to have happened today is that support was provided to the Chinese market in order to forestall any additional selling pressure in response to the announcement. 



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May 31 2016

Commentary by Eoin Treacy

MSCI Optimism Revives China Stocks With Biggest Gain Since March

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

Chinese stocks were shaken out of their May torpor after Goldman Sachs Group Inc. said it was likely the nation’s shares would be included in MSCI Inc.’s global benchmark indexes.

The Shanghai Composite Index jumped 3.3 percent at the close for its biggest increase in almost three months. The gains were accompanied by a pick up in turnover, which had fallen to levels last regularly seen in 2014, while brokerages surged. The rally was uninterrupted by a sudden plunge in stock-index futures, which fell by the 10 percent daily limit before snapping back in less than a minute.

The odds of Chinese stocks winning MSCI inclusion have increased to 70 percent from 50 percent just last month, thanks to new rules aimed at curbing trading halts and a clarification by the regulator about beneficial ownership rules, Goldman Sachs said Tuesday. The Shanghai gauge still dropped 0.7 percent in May, extending the world’s worst performance this year, amid concern the economic slowdown will hurt earnings and as the yuan heads for its biggest monthly loss since August’s devaluation.~

“The market is expecting that mainland shares will have a pretty high chance of joining the MSCI’s global indexes next month,” said Wang Zheng, Shanghai-based chief investment officer at Jingxi Investment Management Co.

 

Eoin Treacy's view -

The prospect of MSCI membership was one of the contributing factors in the spike experienced by mainland Chinese shares last year. When the decision was to wait and see rather than approve membership the market was robbed of a potent source of demand and the leverage that had built up with the introduction of options trading was put under pressure. 



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May 26 2016

Commentary by Eoin Treacy

The Little-Known Alibaba Unit That Prompted an SEC Probe

This article from Bloomberg news may be of interest to subscribers. Here is a section: 

One issue for the SEC appears to be how Alibaba accounts for Cainiao’s financial performance. Alibaba includes results from Cainiao using the equity method, which counts profits and losses as a proportion of an investment. Considering Alibaba’s high ownership and control over the logistics business, regulators may be asking whether Alibaba should completely consolidate Cainiao into its results, said Paul Gillis, an accounting professor at Peking University’s Guanghua School of Management.

In 2015, Cainiao posted a net loss of 617 million yuan ($94 million) on sales of almost 3.1 billion yuan, Alibaba said. That year, Alibaba recorded its percentage of the loss on its books, $46 million. At the same time, the e-commerce company reported a $128 million gain on investments in Cainiao and other entities.

The gain, which helped offset the operating losses, was probably due to the higher valuation that Cainiao fetched in its latest funding round, according to Sanford C. Bernstein & Co. In March, Cainiao announced its first round of external fundraising, with financing from investors including Temasek Holdings Pte, GIC Pte and Khazanah Nasional Bhd. That gave the delivery network a valuation of about $7.7 billion, Caixin reported, citing people familiar with the matter

Eoin Treacy's view -

The issue is not so much with the size or performance of Alibaba’s logistics subsidiary but rather in the opacity with which the company deals with its shareholders. Alibaba is not alone in this regard. Google’s reorganisation and issuance of C shares and Facebook’s reorganisation to ensure Zuckerberg’s control both exemplify a trend toward less shareholder oversight of management decisions. Against that background Alibaba’s governance issues are non-trivial but arguably they are already in the price. 



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May 23 2016

Commentary by Eoin Treacy

China and the world: New Frontiers, Fresh Connections

Thanks to a subscriber for this report from HSBC highlighting the increasingly important role played by the Chinese economy in spurring global growth. Here is a section:

The story now is that China has been increasingly moving up the value chain. In 1995, labour-intensive products such as toys and shoes (grey line in chart 13) accounted for 36% of China's overall exports. By 2015, this share was down to 26%. Meanwhile, the share of machinery and transport equipment (blue line) increased from 21% to 46% over the same period. Soon this transition was starting to have a global impact. Chart 13 shows China's world share by product. Although China's world market share had increased quite steadily for most categories of products, it is the improvement in machinery and transport equipment that is the most striking. In two decades, China's global market share rose from a mere 4% to 17%. Incidentally, this is how China has increasingly earned more in terms of trade surplus vis-à-vis the rest of the world (Chart 14).

In more recent years, a decrease in China’s commodity exports has become another noticeable trend. Chart 15 shows China's declining dominance in the exports of primary commodities and metal products and an improving market share in manufactured goods such as lighting, telecoms, etc.

So, where might China's trade go from here? On most metrics, China's export industry still has much room for improvement. China has recognised that it needs innovation to move up the value chain. It needs to differentiate its products through advances in technology, design or other attributes. The recent five-year plans have included elements related to innovation, R&D and even intellectual property rights. The transition from a low-cost producer to one that increasingly makes more value-add is a longer-term trend that has just begun and it is by no means an easy one. Greater openness to foreign investment, as well as domestic reforms, will help make this process a smoother one.

And for other emerging markets, China moving up the value chain creates opportunities. Countries in parts of Africa and Asia with lower costs of production will likely benefit from a production shift away from China and towards even lower cost bases. China's rise up the ladder may pull a few countries with it. 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber's Area. 

China has come a long way and for much of its hinterland the performance of its economy exerts a leash effect in much the same way Wall Street does for the USA’s largest trading partners. It is for that reason we tend to pay such close attention to what is happening In China’s stock and currency markets as well as the political machinations of what is still a highly orchestrated market. 



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May 19 2016

Commentary by Eoin Treacy

Buy Robot. Silicon Valley Misses a Trick as China Nabs Kuka

This article by Chris Bryant and Nisha Gopalan for Bloomberg may be of interest to subscribers. Here is a section: 

Adding robotics exposure makes sense, as rising Chinese labor costs are expected to drive a big increase in factory automation there. At present, China uses much less automated manufacturing than more developed economies such as South Korea and Germany. 
China's robot sales rose 16 percent last year, according to the International Federation of Robotics, which predicts that by 2018 it will account for more than one third of industrial robots installed worldwide. 

So you can see the strategic sense of a Kuka deal. But it still begs the question: why didn't Silicon Valley jump in here? Midea's offer values Kuka's equity at 4.5 billion euros ($5 billion), chump change for the likes of Google, Apple or Amazon.

And yes, that whacking great premium is surely designed to see off any potential white knights, but -- just like China -- the U.S. tech giants aren't restricted by the usual rules of corporate finance.

There's been a lot of big talk there about robotics, but besides Amazon's clever acquisition of Kiva, which makes robots that whizz around its logistics centers, we've seen little fruitful action. In March, Google beat a partial retreat by putting its Boston Dynamics unit up for sale.

Of course, the U.S. reigns supreme in software, increasingly central to the success of robotics. But if you want to own the future, you'll have to marry that expertise to intelligent hardware. And it's here where Kuka excels.

The German company has branched out beyond its car-plant robot roots to other sectors, including electronics and medical applications. It's taking a run at the so-called "internet of things" by making its machines easier to program. Its lightweight model called the iiwa is a technological wonder that can work side-by-side with humans, without a safety cage.

 

Eoin Treacy's view -

China is investing heavily in automation because having achieved the moniker “workshop of the world” it intends to hold onto it as labour costs rise. However there is another reason China Inc. is on such a buying spree; acquiring everything from luxury hotels and food companies to robotics in the last year. 



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May 16 2016

Commentary by Eoin Treacy

Email of the day on China and governance

In Friday’s audio, you speculated about possible reasons for China’s tightening of social conditions.  The following report from an Australian reporter in China, leaves me with little doubt. Xi has already shown his cards.  If the country is opaque today, the future will be more so.  If governance is everything, China will be a laggard.

My first assessment was that more centralization and tougher social conditions in China would delay economic growth but I now think the opposite is just as likely.  

The need for economic reform has been obvious but progress has been slow.  Debt has increased, excess capacity remains a serious problem  while attempts to influence stock markets were ham-fisted.  The failure of the bureaucracy is evident but implementing tough economic policies in the face of public resistance has been difficult. The existence of the country’s strongest unions in the infrastructure and heavy industry sectors, seems to have made change impossible.

In the West we are seeing how democratically elected governments are being taken over by populists whose promises are unrealistic and mostly damaging to their economies.  In Australia we are at day nine in an eight week election campaign where the economically conservative government, which is acutely aware of the nation’s unsustainable path, is struggling to sell a moderate budget which sees debt continuing to increase while depending also on continuing world economic growth and financial stability.  

Premier Xi has no intention of allowing China to go down that same path.  He can see the country’s problems as clearly as we can but the system has failed.

I can easily see Xi blaming bureaucrats and weak leadership in the provinces.  The scene is being set for a major purge.  A second cultural revolution.  Xi can see what the markets are saying and he could  use his power to implement tough economic policies.  There will be significant short term social pain and major economic risks but a strong turnaround in the economy is likely to emerge. China could regain its position as an economic powerhouse.

The period of turmoil will see China’s markets collapse. This will be a black swan event.  Knock-on effects around the world will be serious but, as is often the case, will be another good long term buying opportunity.

 

Eoin Treacy's view -

Thank you for sharing your perspective and this article highlighting the increasingly leftist leanings of Communist Party rhetoric. Most forward looking societies prize bettering oneself through pursuing education and China is no different. Therefore regardless of how you dress it up in idealism, relegating the most educated people in society to its lowliest echelons can only be considered a retrograde step. 



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May 10 2016

Commentary by Eoin Treacy

Asked the general trend of the first quarter start

This missive attributed to an “authoritative source” from the central government of China highlights the challenges facing the administration as overcapacity in a number of key sectors is unwound. Here is a section from the Google Translation:

However, it is undeniable that we are faced with the inherent contradiction has not fundamentally resolved, some new problems have also been exposed. "Stability" of the foundation is still mainly rely on the "old way", that is investment-led, large fiscal balance pressure in some areas, increased economic risk probability. Especially private enterprises to invest in a substantial decline in the real estate bubble, an increase in excess capacity, non-performing loans, local debt, equities, foreign exchange, bonds, and so the risk of illegal fund-raising point. Some lower market-oriented, industrial low-end, single structure of the region, economic downward pressure is still increasing, highlighting the problem of employment, social conflict has intensified. Thus, in the face of the main contradiction is down structural than cyclical situation, "into" is "stable" foundation. "In" is to solve the economic operation of the supply side, structural and institutional issues, which will take time, is still in the initial stage, the new power is also not afford to pick beam.

Comprehensive judgment, our economy can not be U-shaped, but can not be V-shaped, but the L-shaped trend.

Want to emphasize that this is an L-shaped stage, not a year or two past. The next few years, the overall weak demand and overcapacity coexist hard for fundamental change, economic growth is not possible, as once picked up it will continue upward as before and one after another to achieve high growth years. "Step back" in order to "two steps forward." We are confident about the development prospects of China, China's full economic potential, toughness, large room for maneuver, if not exciting, not much speed down. In this regard, it must be internalized in the heart outside of the line. Some economic indicators to rebound, do not visibly; some economic indicators down, do not panic.

 

Eoin Treacy's view -

Generally speaking when we hear from an unnamed authoritative source in what is considered a mouthpiece for the central government it is taken as a tacit reflection of standing committee perspective. An L-shaped recovery aimed at the rationalisation of overcapacity and acceptance that the bad loans problem will need to be dealt with, can be viewed as net positives. This is despite the fact it means China is unlikely to be the global growth leader in the next five years that it was in the last decade. 



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May 06 2016

Commentary by Eoin Treacy

CLSA Sees China Bad-Loan Epidemic With $1 Trillion of Losses

This article by Paul Punckhurst for Bloomberg may be of interest to subscribers. Here is a section:

Cheung’s assessment adds to warnings from hedge-fund manager Kyle Bass, Autonomous Research analyst Charlene Chu and the International Monetary Fund on China’s likely levels of troubled credit. The IMF said last month that the nation may have $1.3 trillion of risky loans, with potential losses equivalent to 7 percent of gross domestic product.

‘Shadow Banking’
CLSA estimates bad credit in shadow banking -- a category including banks’ off-balance-sheet lending such as entrusted loans and trust loans -- could amount to 4.6 trillion yuan and yield a loss of 2.8 trillion yuan.

CLSA cites a diminishing economic return on stimulus pumped into the economy as among the reasons for a worsening outlook, with Cheung saying at a briefing that bad loans had the potential to rise to 20 percent to 25 percent.

“China’s banking system has reached a point where it needs a comprehensive solution for the bad-debt problem, but there is no plan yet,” he said in the report.

 

Eoin Treacy's view -

Concerns about the scale of nonperforming loans have been voiced by international investors on more than a few occasions over the years and yet very little has been done to tackle the issue. In fact the ham-fisted approach to market regulation under the Xi administration has probably exacerbated the problem. 



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May 04 2016

Commentary by Eoin Treacy

China Rolls Up Welcome Mat

This article by Andrew Browne for the Wall Street Journal may be of interest to subscribers. Here is a section:

No, China isn’t closing for business. Compared with many other developing countries, it remains wide open. It is the world’s largest manufacturer, biggest trader and a magnet for foreign investment. About three-quarters of China’s high-tech exports come from foreign-invested companies.

China’s antiforeign turn is driven by several related trends. First, President Xi Jinping has a much lower tolerance than Deng for the unwelcome intrusion of foreign ideas about democracy, press freedom and individual rights that come along with trade and investment—what Deng called “flies and mosquitoes.”

The other day, Mr. Xi was railing against “Western capitalist values” invading the Communist Party’s own training schools.

Second, Mr. Xi is pushing ideology harder than any leader in decades. Increasingly, China sees itself in ideological confrontation with the West. In addition to stressing Marxism, Mr. Xi’s administration is seeking to revive traditional Chinese culture to counter Western ideas—thus, the hostility to crosses.

And Mr. Xi is promoting a strident form of nationalism. One aspect of this is much greater Chinese assertiveness in territorial disputes with neighbors, including Japan, Vietnam and the Philippines. Another is an explicit set of government policies aimed at helping Chinese firms replace their foreign rivals in the domestic market.

All of this adds uncertainty to the outlook for foreigners who have landed on China’s shores. The 2010 census put their number at almost 600,000, not including residents from Hong Kong, Macau and Taiwan.

 

Eoin Treacy's view -

A link to the full article is posted in the Subscriber's Area. 

“Governance is Everything” has been a mantra at this Service for decades. China made massive steps in opening up to foreign investment and became the world’s factory floor in a very short period of time; creating massive wealth along the way. Co-operation with the wider world always came on China’s terms such as requiring domestic partners and technology sharing but there was the quid pro quo in terms of access to the growing Chinese consumer base. 



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April 25 2016

Commentary by Eoin Treacy

Cloudy with a chance of monetization

Thanks to a subscriber for this report from Deutsche Bank which many of interest. Here is a section

US colleagues Karl Keirstead and Ross Sandler describe public cloud services as "the biggest and most disruptive trend impacting the technology industry." DB estimates the total addressable market for cloud to be USD500b. Cloud service providers have captured only a low-single-digit piece of this TAM. In China, the opportunity is even younger and less penetrated. AliCloud is the clear hometown favorite, with 65% of DB survey respondents using its solutions. Alibaba is our preferred play on cloud over Tencent and Baidu, which have much smaller cloud businesses that should also grow appreciably.

China: catching the “growth story” even earlier on; both public and private
The value proposition of the public cloud is simple: enabling deep cost savings and freeing up resources for enterprises to pursue more core business activities. While public cloud revenues at AliCloud and others continue to grow in the triple digits, China is also seeing strong growth in private cloud, as government bureaus, SOE’s and large private companies heed government exhortations to reform their hidebound IT regimes behind its “Internet+” initiative. Before the introduction of the cloud, about 70-80% of companies’ IT budgets and time were spent on low-value-added areas such as infrastructure maintenance, upgrades and integration. With external cloud operators taking over these burdens, management is able to concentrate on growth-centered initiatives, with cloud assisting in saving time and expense. Some 72% of respondents to our survey indicate that they are reducing significantly their IT spend through the use of cloud computing services. Alibaba Research Institute, for instance, estimates that 70% of computing costs can be saved.

China's CIO speaks: results of DB proprietary survey
As part of our overview of China's nascent cloud industry, we surveyed more than 50 CIO's, CTO’s, Directors and VPs of IT. Results revealed cloud computing to be the #1 priority this year, followed by security services at #2, and IT infrastructure and datacenters at #3. These companies expect to spend approximately 27% and 30% on cloud computing services in 2016 and 2017, respectively, compared to 20% in 2015. Over 50% of the respondents stated that they were able to save up to 40% of their IT spending thanks to cloud computing. 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber/s Area.

Making the state owned sector more nimble is a primary policy objective of the Chinese administration. Under Xi Jinping, the desire to have an all-encompassing database, with greater visibility over the affairs of various agencies has reached new heights and the expansion of cloud services gels with that ambition. That’s is likely to fuel growth in both the private and public sectors.  



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April 05 2016

Commentary by Eoin Treacy

April 05 2016

Commentary by Eoin Treacy

Panama Papers probes opened, China limits access to news on leaks

This article from Reuters may be of interest to subscribers. Here is a section:

Leading figures and financial institutions responded to the massive leak of more than 11.5 million documents with denials of any wrongdoing as prosecutors and regulators began a review of the reports from the investigation by the U.S.-based International Consortium of Investigative Journalists (ICIJ) and other media organizations.

Following the reports, China has moved to limit local access to coverage of the matter with state media denouncing Western reporting on the leak as biased against non-Western leaders.

 

Eoin Treacy's view -

The issue of offshore accounts is an emotive one not least for those lacking the financial resources to benefit from the protections they offer. This represents a challenge both for the jurisdictions that provide these services but also for their clients in an environment where supposedly private correspondence can be publicly aired. It’s all the more puzzling because many of the legal services that can be provided by these firms are often achievable by staying onshore but structuring one’s affairs in line with the valid interpretations of domestic law. 
 

 



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February 25 2016

Commentary by Eoin Treacy

China's Shadow Banking Evolves to Dodge Crackdown

This article by Justina Lee for Bloomberg may be of interest to subscribers. Here is a section: 

“If you talk to a bank, they’ll say it’s somebody else’s credit risk,” Smith said. “But the ultimate credit risk doesn’t disappear. The brokers for sure are not taking this on in exchange for a few basis points, so ultimately the banks are still holding onto this credit risk. If it all goes bad, the brokers don’t have the balance sheet to support it, and somebody else has to come in and take it over."

Shadow banking hit the headlines in 2014 when a 3 billion yuan product issued by China Credit Trust Co. to raise funds for a coal miner faced default. The product was bailed out four days before the payment was due, though it wasn’t clear who provided the funds. Growth in AMPs has slowed every year since 2012, when rules on brokerages’ asset management businesses were first eased and such plans surged 575 percent.

Eoin Treacy's view -

The mechanics of the Chinese shadow banking sector seems to bear a lot of similarities with the types of special purpose vehicles set up by companies like AIG in the USA during the housing boom.

As with the challenge that faced the USA, the issue did not come to a head until the central bank had tightened monetary policy to a point where the supply of credit to such vehicles was choked off. Right now the new regulator’s resolve in supporting markets appears to be under scrutiny. 



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January 26 2016

Commentary by Eoin Treacy

Wider China-Hong Kong Discrepancy Revives Fake Trade Doubts

This article from Bloomberg news may be of interest to subscribers. Here is a section:

The discrepancy suggests China’s trade recovery in December was inflated by fake invoicing to skirt capital controls and profit from the difference between the yuan’s exchange rates in on-shore and off-shore currency markets.

In a twist to fake invoicing in 2013, when the government said export and import figures were overstated due to the phony trade to bring money into the mainland, the refreshed practice has more to do with capital outflows from China. Outflows jumped in December, with the estimated 2015 total reaching $1 trillion, Bloomberg Intelligence estimates show.
Offshore Affiliates

"The divergence of trade data indicates a potential use of the trade channel for financial arbitrages," said Raymond Yeung, a Hong Kong-based senior economist at Australia & New Zealand Banking Group Ltd. Given how the spread between the onshore and offshore yuan widened in December, exporters and importers "may move funds across the border through trading with offshore affiliates. By blowing up trade figures, traders may potentially receive a larger forex quota to move their funds abroad."

 

Eoin Treacy's view -

The above news of record capital outflows acted a drag on the stock market today with the A-Share Index dropping below the psychological 3000 level to extend the downtrend. 



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January 22 2016

Commentary by Eoin Treacy

Quarantine Alert as China Infects Singapore's Banks

This article by Andy Mukherjee for Bloomberg may be of interest to subscribers. Here is a section: 

Two, pessimism is setting in just when the city's benchmark interbank borrowing rate is climbing. To the extent Singapore banks' net interest margins in recent years have been hostage to the abundance of cheap money, investors had a reason to be optimistic. Clearly, China-related jitters are trumping any hopes of them being able to turn their low-cost deposits into higher-priced loans, especially without a revival in the property market:

Three, the pecking order has changed since China's shock Aug. 11 devaluation. Before that, UOB, the smallest of the trio by market value, had the lowest price-to-book ratio. Now it has the highest. Interestingly, this shift has occurred even as analysts have marked down their estimates of UOB's 2015 per- share earnings by almost 3 percent over the past four weeks. It seems investors are giving UOB the benefit of the doubt because of its lower exposure to Asia's biggest economy:

Ultimately, though, it's impossible to accurately assess Singapore banks' actual vulnerability to a China meltdown. All three are regional lenders with significant corporate loan books at a time when companies in Asia are facing deep distress because of the way China's flagging demand for commodities has caught them off guard. Ripples in the high-yield bond market are giving a strong signal that 2016 may well turn out to be a year of accelerated loan-loss provisions for them. Investors may be right to seek cover.

Eoin Treacy's view -

Singapore has benefitted enormously from its status as a private banking centre over the last decade. The rise of China, India and wider ASEAN has created plenty of demand for the strong governance and professionalism to be found in the city state. That’s worth remembering as the banking sector is buffeted by currency market volatility, China’s slowdown, the commodity bear market and rising interest rates. 



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January 20 2016

Commentary by Eoin Treacy

Hong Kong Dollar Forwards Sink to Weakest Since 1999 on Peg Bets

This article by Saijel Kishan and Dominic Lau for Bloomberg may be of interest to subscribers. Here is a section: 

The city’s government bonds tumbled, pushing the 10-year yield to the highest level in 15 months and Hong Kong’s Hang Seng Index of shares dropped the most since Aug. 24 and as rising local borrowing costs threaten to further brake an economy reeling from a collapse in Chinese shares and the slowest growth in the mainland in 25 years. The yuan’s slide to a five-year low in the first week of January triggered weakness in emerging Asian currencies this month, led by a 3.4 percent drop in South Korea’s won.

 “It’s like an attack all fronts on Hong Kong,” said Nordine Naam, global macro strategist at Natixis in Paris. “Investors are getting more and more risk adverse, especially with regards to China and so they’re getting out of the region. For the time being, Hong Kong has lost its safe haven status.”
Hong Kong Monetary Authority Chief Executive Norman Chan said Monday he expects the local currency to decline to the lower limit and reiterated his commitment to keeping the linked exchange-rate system. It had traded at the strong end of the range as recently as Jan. 4. He said Wednesday that the International Monetary Fund is also a supporter of the mechanism.

Hong Kong brought in the peg in 1983 after a 30 percent plunge in the local dollar’s value led to panic buying of rice and other staples. Former HKMA chief Joseph Yam in 2012 called for a review of the peg, having in 1998 conducted $15 billion of stock purchases to fend off speculative attacks on Hong Kong’s equity and currency markets.

“The Hong Kong dollar is a victim of all the risk aversion across global markets given what’s happening with China,” said Tommy Ong, managing director for treasury and markets at DBS Hong Kong Ltd. “Dollar pegs across the globe are under pressure but I trust that the Hong Kong peg will stay in place because there are no better alternatives given the volatility we’ve seen with the yuan.”

 

Eoin Treacy's view -

Following a visit to Hong Kong in October I came away with the impression that housing was drastically overvalued and the impending change in the US interest rate cycle would be bad news for the sector. There is a running argument on the ability of the US economy to tolerate the strength of the Dollar but a consensus is evident in the belief a number of countries and regions maintaining Dollar pegs can ill afford currency strength at the present time. 



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January 19 2016

Commentary by Eoin Treacy

Top Forecaster Sees Aussie Demons Capping Gains as Bottom Near

This article by Candice Zachariahs for Bloomberg may be of interest to subscribers. Here is a section: 

Bialas estimates that a “big chunk” of Aussie underperformance came from the unraveling of carry trades that involved, in particular, borrowing euros at near zero percent to buy a currency linked to a higher benchmark rate. The Reserve Bank of Australia cash rate currently stands at 2 percent and policy makers have signaled a reluctance to take it any lower.

Australia last month capped its strongest year for job growth since 2006, with the country’s services sector propelling gains as the mining industry cooled.

“I expect the Aussie-U.S. dollar to bottom sometime in the second quarter,” Bialas said, “as improved competitiveness of sectors unrelated to mining, a strong labor market and a recovery in inflation will give rise to speculation about the return of the RBA to raise interest rates later this year.”

 

Eoin Treacy's view -

Few developed markets are as exposed to China as Australia so the relative weakness of the Australian Dollar has been a reflection of stress in its largest export market. With Chinese government yields testing the lows seen in 2008 the potential for measures to support economic growth to be announced is growing and that may act to stem the Aussie’s decline.  



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January 18 2016

Commentary by Eoin Treacy

China's Mixed Signals Have Eichengreen Questioning 'Competence'

This article by Anna Andrianova for Bloomberg may be of interest to subscribers. Here is a section: 

It’s clear that they have responded very poorly and very erratically so far, especially in the past year,” said Eichengreen, author of “Hall of Mirrors,” a book analyzing the crises of the Great Depression and the Great Recession. “They can’t quite decide if they want the exchange rate be more flexible or not, they can’t communicate clearly to the markets.”

The measures to shore up the Chinese currency and plug an outflow of capital risk setting back the long-held goal for an internationalized yuan. The People’s Bank of China said Monday that lenders in offshore yuan-trading centers will now have to lock away a share of deposits in its accounts, ending the exemption for foreign institutions in a push to curb speculation against the currency. That followed large-scale intervention in Hong Kong last week that sent yuan borrowing rates in the city soaring to a record as liquidity was temporarily crunched.

 

Eoin Treacy's view -

In the West we are accustomed to viewing markets through the lens of economics, fundamentals, technicals, and at this service the behaviour of investors. However with China we also need to have a view on the political machinations of the market and the uncertainty widely different personalities can have on the complexion of that market. 



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January 12 2016

Commentary by Eoin Treacy

European Shares Rebound From Four-Day Rout as Carmakers Rally

This article by Alan Soughley and Sofia Horta e Costa for Bloomberg may be of interest to subscribers. Here is a section:

“This rebound could be a sign that global markets are calming down a little,” said Pedro Ricardo Santos, a broker at X-Trade Brokers DM SA in Lisbon. “We expect to see a recovery for equities this week, though we’re not yet talking about a strong rally from here. Concerns about commodities prices will persist, and pressure on those sectors continues to be very high.”

Investor fear that turmoil in China’s stocks and currency will spread to the global economy has spurred declines in world markets this year, wiping about $5.4 trillion off the value of international equities. Mining companies have suffered the most in Europe, with a gauge of regional commodity producers sliding 15 percent so far in 2016. 

 

Eoin Treacy's view -

The Eurozone is not raising interest rates. In fact since the ECB has only one mandate and that is to achieve inflation close to, but not above, 2% it is looking more likely than not monetary will be looser rather than tighter for the foreseeable future. Despite turmoil on a number of fronts monetary policy is likely to be a tailwind more often than not over the coming years. 

 



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January 07 2016

Commentary by Eoin Treacy

How Low Could Yuan Fall to Restore China Export Growth?

This article by Fielding Chen and Tom Orlik for Bloomberg may be of interest to subscribers. Here is a section:

Analysis by Bloomberg Intelligence Economics suggests a drop in the yuan to 7.70 to the U.S. dollar could return export growth to 10% year on year by end-2016 and add 0.7 percentage point to GDP growth. A slide to that level could also result in capital outflows of around $670 billion, though that appears manageable given the People’s Bank of China’s large foreign exchange reserves.

Eoin Treacy's view -

As I discussed yesterday China needs a weaker currency and the question is really in what way it is going to achieve that goal. Despite that fact, the last thing the administration wants is to engender panic so it is reasonable to expect some measures to support the currency will be implemented to allow the short-term oversold condition to be unwound. 



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January 06 2016

Commentary by Eoin Treacy

President Xi Jinping lays down the law to the Chinese army in first 'precept' speech since Mao Zedong

This article by Li Jing for the South China Morning Post on Monday may be of interest to subscribers. Here is a section: 

The only other leader to have given a precept speech to the military in the 67-year history of the People’s Republic of China was Mao Zedong, who did so in 1952 and 1953.

Xi, who is also chairman of the Central Military Commission (CMC), used the speech to call for his military reform plans to be fully implemented.

Xi’s ambitious modernisation plan would completely remodel the army, which was established in Mao’s era, and would therefore put him on a par with – or even higher than – Mao in terms of his military authority, said Chen Daoyin, an associate professor at Shanghai University of Political Science and Law.

“No other former CMC chairman – Deng Xiaoping (???), Jiang Zemin (???) or Hu Jintao (???) – has given a military precept before, which means Xi’s power and authority is even higher than them,” said Chen.

Zhang Lifan, a party historian, said the phrase “Xun Ci” suggested a sense of sternness and admonishment towards the lower ranks.

“It also signals Xi’s discontent and anxiety over the status of the army – the rampant corruption and the Soviet-style command structures,” he said.

Xi was showing assertiveness in the overhaul to remove any resistance from within the army, said Zhang.

 

Eoin Treacy's view -

Xi Jinping is head of state, head of the military, minister for foreign affairs and controls the economics portfolio. As if that is not enough he is also attempting to push through an aggressive reform agenda which would modernise the army and clamp down on corruption, trying to rationalise overcapacity in steel, coal, cement and managing a slowdown in the housing market. With so many ambitious targets he is stepping on a lot of toes and needs the military on side if he is quash dissent within the Party. 



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January 04 2016

Commentary by Eoin Treacy

China's Seven-Minute Selling Frenzy Shows Circuit-Breaker Risks

This article by Kyoungwha Kim and Cindy Wang for Bloomberg may be of interest to subscribers. Here is a section: 

“Investors rushed to the door during the level-one stage of the circuit breaker as they fretted the market would go down further,” said William Wong, the head of sales trading at Shenwan Hongyuan in Hong Kong.

Spiraling losses on the first day of China’s circuit breakers show how measures meant to help restore calm to one of the world’s most volatile equity markets risk doing just the opposite. The selloff could spur policy makers to “fine tune” the new rules, according to Andrew Sullivan, managing director for sales trading at Haitong International Securities Group Ltd. in Hong Kong. Unlike similar circuit breakers in markets including the U.S., the threshold for trading halts in China is low enough that they would have kicked in 20 times last summer alone.

Circuit breakers are the latest effort by Chinese authorities to tame swings in a stock market where the growing use of leverage by individual investors drove an unprecedented boom -- followed by a $5 trillion bust -- in the span of just a few months last year. The CSI 300 index of the nation’s biggest companies rose or fell by 5 percent 20 times from the start of June through early September, with daily moves exceeding 7 percent on half of those occasions.

Chinese shares began Monday with losses after data showed manufacturing contracted for a fifth straight month and investors anticipated the end of a ban on share sales by major stakeholders at the end of this week.

 

Eoin Treacy's view -

In the West we are accustomed to monetary policy decisions and economic statistics having an influence on the market and investor psychology. These also play a role in how Chinese investors make decisions but the fluidity of the regulatory framework and the government’s direct involvement in equity market have an even greater influence. 



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December 30 2015

Commentary by Eoin Treacy

China and Clinton Agree: Traders Should Pay for Canceled Orders

This article by Eduard Gismatullin and Sam Mamudi may be of interest to subscribers. Here is a section: 

Other measures suggested by the CSRC include forcing traders who use automated orders to provide a detailed description of their strategies to regulators and wait for a review before they’re allowed to execute trades. That proposal has raised concern among some international investors who don’t want to disclose their proprietary trading algorithms, according to Calvin Tai, the head of global clearing at Hong Kong’s stock exchange.

Clinton, the front-runner to win the Democratic nomination for president, called for a fee on canceled orders in October and explicitly linked the idea to curbing high-frequency traders. Her plan is designed to target “harmful” high-frequency trading that makes markets “less stable and less fair,” Clinton’s campaign said at the time. 

For every 27 orders placed on U.S. stock exchanges, about one is filled, according to data from the U.S. Securities and Exchange Commission. In other words, approximately 96 percent of all orders sent to U.S. equity markets are canceled.

China wouldn’t be unique in trying to limit canceled trades. Traders using Frankfurt-based Deutsche Boerse AG’s stock market are restricted from submitting an excessive amount of orders that don’t get executed. Borsa Italiana has a high-usage surcharge to prevent orders from getting too far out of whack with the number of actual trades.

 

Eoin Treacy's view -

China introducing a fee for cancelled orders will certainly put the brakes on spoofing. Demanding firms submit their strategies to regulators for ‘approval’ before they ever enter the market probably means China’s high frequency trading environment will remain a domestic affair. 

I can’t but think that the introduction of these rules is ironic since high frequency trading is in its infancy in China. The USA needs these types of rules while China needs better protections on insider trading and traditional market manipulation which it has been notably slow in introducing. 

 



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December 14 2015

Commentary by Eoin Treacy

The Great China Supply-Side Revolution? Communists Change Tack

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

To be sure, the current focus on supply-side reform isn’t unique. In 2013, the State Council published a list of industries it said were suffering from chronic overcapacity.

"China is slowing down rapidly, so giving up demand management is not an option," said Yao Yang, dean of the National School of Development at Peking University. "Supply- side reform is a long-term process and in the short term it can hardly show an effect. China needs more demand now, we need to utilize the capacity rather than simply cut it."

So while the pendulum has swung to the supply side for now, Xi must also keep growth ticking over to maintain political backing for policy changes ahead.

"Structural reforms will be undertaken, as long as growth does not collapse below the targeted levels," said Stephen Jen, co-founder of SLJ Macro Partners LLP in London and a former International Monetary Fund economist. "All of the reforms are meant to enhance the quality of growth, rather than ‘quantity.’"

 

Eoin Treacy's view -

China’s overcapacity in steel, coal, cement etc. represent major challenges but this is not new. These issues have been discussed at length by economists for almost a decade. What is new is the administration is finally talking about doing something about it. 

An adjustment of that scale cannot be undertaken without other areas of the economy providing support. Changes to the one child policy, the houkou registration system of residency and expanding social services are all aimed at enhancing the consumer and services sectors in order to mitigate the impact of rationalisation in the industrial sector.



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November 30 2015

Commentary by Eoin Treacy

IMF Backs Yuan in Reserve-Currency Club After 2010 Rejection

This article by Andrew Mayeda for Bloomberg may be of interest to subscribers. Here is a section: 

The IMF endorsement is a bright spot in what has been a tumultuous year for the world’s second-biggest economy, which has been buffeted by slowing growth, a tumbling stock market and a shift by authorities toward a more market-oriented exchange rate.

Approval is unlikely to have much impact on short-term demand for the yuan, given the SDR’s minor share of global reserves, according to economists at banks including HSBC Holdings Plc and ING Groep NV. But the backing of the IMF, as well as the financial reforms required for China to secure and maintain it, could propel use of the yuan past the pound and yen over the medium term, said Viraj Patel, a currency strategist at ING Bank in London.

"We’re going to see sort of the emergence of a renminbi trading bloc," mostly composed of Asian countries, Patel said in a phone interview before the decision, using the official name which means “the people’s currency” in Mandarin.

The decision should boost efforts by Xi to open up China’s financial markets. China implemented a series of reforms to win IMF support, such as opening its onshore bond and currency markets to foreign central banks and reporting its reserves to the IMF.

 

Eoin Treacy's view -

This is a public relations success for Xi and his administration but is unlikely to have any influence on the Chinese intent to devalue its currency as it attempts to support its export sector. 



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November 16 2015

Commentary by Eoin Treacy

Foreign Students Pinch University of California Home-State Admissions

This article by Miriam Jordan and Douglas Belkin for the Wall Street Journal may be of interest to subscribers. Here is a section: 

A record 974,926 international students were enrolled at accredited two- and four-year U.S. schools for the 2014-15 school year, a 10% rise over a year earlier, according to the Institute of International Education. About one-third of those students—304,040—are from China. 

Eoin Treacy's view -

A link to the full article is posted in the Subscriber's Area. 

While in China two weeks ago the media was abuzz with the USA’s “provocation” of China in sending ships into the South China Sea. There is no doubt the geopolitical environment is increasingly tense as China flexes its muscles and its neighbours are understandably worried. The question for us as investors is how much weight we should lend to these considerations? 



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November 13 2015

Commentary by Eoin Treacy

China Doubles Margin Requirement for Stocks to Curb Leverage

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

Margin financing, which shrank by more than half during the rout, has been rising for six straight weeks as the Shanghai Composite Index bounced back into a bull market. The decision to tighten investor access to the loans comes a week after regulators lifted a freeze on initial public offerings, removing one of the key measures of support for equities.

"That wasn’t expected by the market, so investors will probably react negatively," said Wu Kan, a Shanghai-based fund manager at JK Life Insurance Co. "The regulators want margin trading to increase in an orderly manner. Brokerages will probably bear the brunt." China stock-index futures dropped 1.9 percent in Singapore at 6:31 p.m. local time.

Margin debt and volume rose “rapidly” in recent weeks as some investors bought shares trading at high valuations, the Shanghai exchange said in a post on its Weibo account explaining the rule change. The move will help reduce leverage and ensure “healthy development” of the market, it said.

Officials face a balancing act: if they crimp margin financing too soon, it could derail the bull market and reduce household wealth in an economy increasingly reliant on consumer spending. If they wait too long, the build-up of debt could threaten stability in the financial system and magnify the next market downturn.

 

Eoin Treacy's view -

The Chinese authorities might have been reading Aesop’s fable of the tortoise and hare when they decided to double margin requirements. They have experienced the speed of both a climactic advance and decline and would much prefer to see the stock market advance but at a modest, less exciting pace. 



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November 10 2015

Commentary by Eoin Treacy

Lloyd George Advisory

Thanks to a subscribers for this report which makes a number of interesting points on the potential for Chinese overseas investment. Here is a section:

I have compared Shanghai in 2015 to Boston in 1970 with the genesis of the investment industry led by Fidelity and other major fund management houses. Apart from the US$3.5 trillion of China’s official reserves, there is another US$9 trillion in Chinese household bank deposits. In November, I expect that the IMF will certify the renminbi as one of the 5 global reserve currencies in the SDR (Special Drawing Rights). China must respond, by liberalizing its capital account over the next 12 months, and allowing its citizens to invest more overseas. Even if (a conservative estimate) 20% of the total savings in China were to be invested overseas, it will have the effect of a major wave of capital coming into global financial markets led by Hong Kong (which we see as the prime beneficiary), but followed by London, New York, and other major financial centers.

This time Chinese capital will not only target property, it will be invested in companies, in technology, in western consumer brands, and in good quality dividend paying shares in the US, Canada, UK, Australia, and elsewhere. The example of Li Ka-shing is not irrelevant. He has been criticized by commentators for taking money out of China and investing it in these Anglo-Saxon jurisdictions, in telecom, water, and power utilities. In my view, he is a very smart, canny, and far-sighted investor. (This month, our research team visited Mr Li’s flagship company, CK Hutchison and were encouraged that their Watson’s pharmacy chain is opening 365 new shops each year in China.)

I believe that the liberalization of the Chinese financial sector is the biggest thing happening in the global capital markets in the next decade. Comparisons may be drawn with Japanese capital in the 1980s, but this Chinese wave is 10 times bigger and will last a lot longer. As yields on RMB deposits are steadily reduced (and the same in Indian rupee deposits), so the thirst for yield will bring Chinese investors, as it once did Japanese investors (the famous Mrs Watanabe) into western equities.

 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber's Area. 

The announcement last month that the wide difference between the Chinese lending and deposit rates would be liberalised is a major step for financial sector but if the below spread is any guide there has been little progress so far.  

At a spread of 275 basis points the banking sector does very well from this situation but depositors are de-incentivised from holding cash. This has contributed to the casino nature of the stock market and also to the growth of the shadow banking system. Allowing banks to compete for deposits by raising interest rates would be a positive development for the economy and would help dispel some of the opacity that plagues the sector. 

 



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November 09 2015

Commentary by Eoin Treacy

China Trip Report

Eoin Treacy's view -

Spending time in China is always an educative experience for me and on this occasion I spent 10 days in Guangzhou and Shenzhen with a brief sojourn in Hong Kong. Mrs. Treacy and I celebrated our 10th wedding anniversary and in a decade of visits to China one takeaway is that costs have risen considerably over that time. 

I met one very interesting factory owner who highlighted that fact. He produces filters and papers for hand rolled cigarettes. Business is booming. With the continued expansion of the marijuana legalisation trend he has seen his USA business expand from 4,000 locations to 18,000 in two years.  He is Belgian and owns 50% of a factory in Shanghai producing these products. Wages are approximately €400 per month. They have tackled the issue of rising Chinese wage demands by hiring Vietnamese, Cambodian and Filipino workers. This was the first time I have heard of China importing cheap labour but it is a logical step. He also mentioned another Dongguan based factory he deals with which is Indian owned and is moving their entire operation to Indonesia where wages are closer to €150 a month. 

 



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October 16 2015

Commentary by Eoin Treacy

China Stocks Cap Best Week Since June on SOE Reform Speculation

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

Chengdu Xingrong Environment Co. also jumped by the daily limit. China will promote price reform in water, oil, natural gas, electric power and transportation sectors, the Xinhua News Agency reported, citing guidelines on promoting price reforms released by the State Council.

“SOE reform is the catalyst that will ultimately drive this market and indications are that this is certainly ramping up,”

Douglas Morton, head of Asian research at Aviate Global LLP, wrote in a note. The measures will include commodity price reform, consolidation of excess capacity sectors, asset sales and asset injections, as well as mixed ownership, he said.

The Communist Party of China Central Committee will hold a key meeting during Oct. 26-29 to deliberate on an economic and social development plan for China over the next five years, according to Xinhua.

Official data due on Oct. 19 will probably show China’s economy grew 6.8 percent in the third quarter, the slowest pace since March 2009, according to the median estimate of 25 economists in a Bloomberg survey. The government’s growth target for this year is 7 percent.

Eoin Treacy's view -

It is a well-known fact that China has built up substantial overcapacity in a wide range of sectors which is contributing to fears the economy is in for a hard landing.  The Chinese administration knows this better than any of us not least because so many senior officials have vested interests. Above all else the Communist Party is interested in holding onto to power and the only way they are going to do that is to continue to deliver on the China Dream Xi Jinping talks about. Rising living standards can be achieved in a number of ways but more affordable housing and greater opportunities in the service sector are two major priorities. 



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October 09 2015

Commentary by Eoin Treacy

Macau, Hong Kong See Slowing Golden Week Tourism From China

This article by Lisa Pham and Annie Lee for Bloomberg may be of interest to subscribers. Here is a section: 

“There’s still pent up demand coming into the market, especially over holiday periods,” Vitaly Umansky, a gaming analyst at Sanford C. Bernstein, said by phone referring to arrivals in Macau. “It would be a bad indicator if there were no growth or a decline in visitation.”

There are also indications that betting volumes in Macau got off to a “strong start” during Golden Week, according to an Oct. 7 note by Daiwa Securities Group Co.

The picture in Hong Kong may be grimmer. Some retailers there saw sales shrink, sometimes by a double-digit percentage, during the first two days of October, compared with a year earlier, according to the Hong Kong Retail Management Association. And the comparison wasn’t coming off a high base because shops in the city last year were hit by pro-democracy protests that blocked key shopping districts and prompted some stores to shut.

Signs also point toward Macau and Hong Kong losing their luster among Chinese tourists. Though they were the top choices last year, Japan and South Korea became the most popular destinations for Chinese tourists during the first four days of Golden Week, according to a recent Credit Suisse Group AG report.

 

Eoin Treacy's view -

Hong Kong benefitted enormously from the Fed’s low interest regime but has been through a tougher time recently with democracy protests, Li Kai Shing taking flak from the Communist Party, the potential for interest rates to rise, the strength of the US Dollar and the slowing Chinese economy. Add to this the fact the Yen and Won, which enhanced their attraction as tourist destinations, and the domestic market has been under pressure. 



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October 08 2015

Commentary by Eoin Treacy

Besties? Why Alibaba, Tencent Are Teaming Up in $15 Billion Deal

This article by Lulu Yilun Chen for Bloomberg may be of interest to subscribers. Here is a section:

An Alibaba-Tencent tie-up in local services would mirror the creation of Didi Kuaidi this year via a merger of competing taxi-hailing apps they separately backed. That marriage was intended to curtail an aggressive expansion by Uber and marked a rare cooperation between companies that still compete head-to-head in entertainment, e-commerce and finance.

As fundraising becomes more difficult in China, the current merger could provide advantages for both sides. It would let the Alibaba and Tencent-backed startups avoid competition with their closest rival, potentially saving money on subsidies and allowing them to collaborate on future efforts.
“The two companies merging would allow them to have absolute dominance of the group-buying market, and require less cash burn,” said Wang Weidong, an analyst at Internet consultancy IResearch in Beijing. “They will be putting a lot of pressure on competitors.”

 

Eoin Treacy's view -

China’s online businesses represent an interesting situation because they have evolved without the direct patronage of the Communist Party.  Of course they have to toe the line in terms of sustaining the political apparatus if they want to survive but that has not stopped them from developing into major private enterprises in a society that is among the most internet savvy in the world. 

Capitalism tends to trend towards concentration and this is especially true of the online sector where the barriers to entry are defined by the ability to pay for placement and broad spectrum advertising. The proposed co-operation between Alibaba and Tencent is a reflection of this fact as well as their intent to hold onto dominant positions with their sectors.  

 



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September 29 2015

Commentary by Eoin Treacy

Luxury goods From growth to brand productivity

Thanks to a subscriber for this report for Deutsche Bank which may be of interest. Here is a section:

The track record suggests that brands that have focused on productivity already in past years – such as Hermes, LV, and Cartier – are already reporting sustainable outperformance in sales and profitability. Higher levels of productivity give room to invest in the brand equity for the long term and finally create unprecedented levels of cash flow. In this volatile environment, these qualities are even more valuable than catch-up opportunities, in our view. At the opposite side of the spectrum, brands that have lower-than-average productivity are likely to face increasing margin pressure: the risk is a short-term reaction, at the expense of the brand equity, with a potentially higher toll to be paid in the longer term.

We have therefore summarized into a unique Brand Power Index the weighted average combination of the quartile ranking across seven dimensions for each brand. Three quantitative measures have received a 20% weight each: retail productivity, brand productivity, and Return on Capital. Four more qualitative and therefore discretionary variables have received a 10% weight each: pricing discipline, exclusivity, brand momentum, and organic opportunity to improve margins. Based on the relative positioning across several variables, we have identified, as shown in Figure 5, the brands that rank in top quartiles. This provides a framework, as objective as possible, to evaluate brand productivity, margin sustainability, and opportunities to improve. An interesting fact about this index is that successful implementation of appropriate strategies can help companies improve their scores.

 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber's Area.

Before Xi Jinping cracked down on extravagant displays of personal wealth among the Communist Party’s elite, there was high demand for just about all luxury brands and strong commonality was evident right across the sector. The more recent slowdown in the Chinese economy has exacerbated the issues facing luxury goods with the result that there are some clear winners and losers. 



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September 18 2015

Commentary by Eoin Treacy

Premiumization is the ultimate Challenge

Thanks to a subscriber for this report from Deutsche Bank which may be of interest. Here is a section: 

Amidst a macro slowdown, Chinese consumer upgrades continued in 1H15, illustrated by the sustainable outperformance of high-end beer, high-quality infant formula, natural water, new premium beverages, high-end diapers, etc. This favours foreign brands, and we view premiumization as the most challenging trend for local brands.

1H15 review: volumes down, prices up, input costs down
In 1H15, the combined revenue/NPAT of HK-listed FMCG stocks under DB coverage (ex-meat) were down 4%/up 2% yoy, largely as volumes were down, prices were up and input costs were down. In the midst of the macro slowdown we saw premiumization, continuous channel destocking and channel shifts. After the completion of destocking, the revenue/NPAT of the major A-share baijiu companies rose 5%/3% in 1H15, Nestle (NESN VX, Hold) recorded mid-single-digit growth in 2Q15, and Unilever (ULVR LN, Buy) returned to modest growth in 1H15 in China. Premium foreign infant milk formula, high-end diapers and beer continued to outperform.

2H15 outlook: de-stocking to ease, yet no signs of macro bottoming out 
After 12 months of channel destocking, we expect pressure to ease in 2H15, while the input cost inflation risk remains low. However, headwinds from the macro slowdown and channel shifts remain strong. Longer term, we think the most challenging trend for local brands is premiumization (both branding and product), as foreign brands are more experienced.

 

Eoin Treacy's view -

The wealth gap is China has created a challenge for domestic brands because the lower middle class has not yet achieved the disposable income levels required to afford many consumer goods while the upper middle class demand premium products and the security of quality that comes with foreign brands. 



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September 15 2015

Commentary by Eoin Treacy

Email of the day on the upcoming Fed decision

It would appear that the Fed might have a tough decision to make on Sep 16-17 – to hike or not?  Perhaps “not” due to the shaky ground of the current China stock market and the repeated pressure from the IMF & ECB not to raise the rates? 

But hypothetically, let’s assume that the Fed will really decide to hike the rates, even with a clear statement on slow increase of rates. In such a scenario, considering that China is the biggest holder of US Treasuries, would you expect China to start unloading/selling their positions immediately?, especially if they still need to further tighten their money market in order to shore/support their ailing stock market. 

Also in the interest of other subscribers, your view would be appreciated.  

 

Eoin Treacy's view -

Reading the Fed runes has the feeling of sports punditry at present and anything we think or say is not going to sway them one iota. The Fed is going to do what it is going to do. I can only think what I would do if I had bet my career and legacy on ensuring the US economy recovers from the biggest growth scare in a century. I’d be cautious, I’d want incontrovertible evidence and I wouldn’t want to take a risk. These are sober people and the last thing they want is to risk deflation. 



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September 10 2015

Commentary by Eoin Treacy

Interesting charts September 10th 2015

Eoin Treacy's view -

Onshore/Offshore Renminbi – Today’s announcement that the Chinese government is going to permit foreign central banks greater access to the Yuan market, so they can hold the Chinese currency as part of their reserves had a marked effect on the offshore renminbi. The ratio between the onshore and offshore versions of the currency compressed sharply and helps put a lid on fears that capital flight was fuelling the arbitrage. 



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September 09 2015

Commentary by Eoin Treacy

China Just Killed the World's Biggest Stock-Index Futures Market

This article by  Kyoungwha Kim for Bloomberg may be of interest to subscribers. Here is a section: 

China, which has been investigating evidence of “malicious” short selling since July, stepped up curbs in the futures markets on Monday. The China Financial Futures Exchange now labels a position of more than 10 contracts on a single index future as “abnormal trading.” While the bourse said the restriction won’t apply to futures used for hedging purposes, it didn’t detail how it will identify such trades. Before last month, investors could have as many as 600 contracts.

The bourse also raised fees for settling positions opened on the same day to 0.23 percent from 0.0115 percent. Margin requirements on stock-index futures contracts were lifted to 40 percent from 30 percent. For those with hedging demand, the levels climbed to 20 percent from 10 percent. Exchange officials didn’t respond to e-mailed questions from Bloomberg News on Tuesday.

Futures trading on the CSI 300 Index, a gauge of the nation’s biggest companies, shrank to just 27,899 contracts on Wednesday. That’s down from 3.2 million at the end of June and compares with the 30-day average of 1.7 million. For the CSI 500 Index of small-cap shares, volumes have dropped to 11,820 from about 144,000 a month ago.

Eoin Treacy's view -

Banning short selling was a common practice during the financial crisis and there are still pretty strict rules on naked shorting in most of Europe and the USA. Removing leveraged traders with an interest in seeing prices falling further must appear a logical step for China’s decision makers. From an analytical perspective this removes a potent source of additional supply which is a positive for the market generally. 



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September 09 2015

Commentary by Eoin Treacy

Email of the day on how to buy the Hang Seng

Thank you for your excellent service, it’s so nice to hear a calm voice every morning these volatile days! I have a short question? I want to buy Hang Seng index, there must be some with a large discount today???? All the best. A subscriber for 27 years!!!!

Eoin Treacy's view -

Thank you for your kind words and support through the years. I am delighted you are enjoying the audios and I agree that China is a lot more interesting right now than it has been for the last month. 



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September 08 2015

Commentary by Eoin Treacy

Email of the day on potential for a change to the Hong Kong Dollar Peg

I have posted a query twice on the future of the HKD in your “subscriber's forum” but I never seen any response so far ?  so I reiterate my question ...

With Hong Kong being closely linked to China's economy and financials, could it be possible that the HKD be unpegged to the USD, or have the peg revised downward ?  And this, for one part due to the uncertainty of predicting the magnitude of the continuing CNY devaluation, and on the other part due to the expected FED raising the interest rate either in Sep or later this year, or early next year ?

Your valuable view as usual would be always appreciated .

Eoin Treacy's view -

Thank you for a question of general interest and we are looking into why the system has difficulty with your email address. The G-20’s platitudes regarding no country actively seeking a competitive advantage through currency devaluation aren’t very well supported by the price action. Today’s news of a booming Germany economy versus the slowing Chinese economy highlight just how much the Eurozone has benefitted from its currency decline. 



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September 07 2015

Commentary by Eoin Treacy

Mobius to Beijing: Quit Fighting the Market and Let Stocks Fall

This article by  Kyoungwha Kim, Cindy Wang and Kana Nishizawa for Bloomberg may be of interest to subscribers. Here is a section:

“I’d expect the government to be reducing intervention,” Mobius, the Franklin Resources Inc. money manager who’s been investing in emerging markets for more than four decades, said in an interview in Hong Kong on Friday. “They realize it’s not working.”

Authorities may be more receptive to declining share prices now that the country’s World War II victory parade -- seen as a platform for President Xi Jinping to project China’s strength on the world stage -- has passed without incident. Mainland exchanges, shut since Sept. 2 for national holidays to celebrate the war anniversary, reopened today facing a range of indicators that suggest investors see more declines.

Eoin Treacy's view -

An important question that needs to be discussed is how much of the advance in Chinese stocks from November 2014 was predicated on bluster and hype and how much was based on fundamental value. There is no doubt that a great deal of the hype has been squeezed out of the market but there is incessant discussion about where prices for individual shares will find support. 



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September 02 2015

Commentary by Eoin Treacy

Email of the day on Chinese consumers

August 28 2015

Commentary by Eoin Treacy

Email of the day the onshore/offshore Renminbi rate

Ambrose Evans-Pritchard in his superb piece in the DT today designates the offshore/onshore Yuan rate as the key canary in the coal mine for further financial stress. Where can we find / how can we follow the offshore/onshore Yuan rate in the chart library?   


 

Eoin Treacy's view -

Thank you for highlighting this article which draws parallels with a range of historical events before highlighting that China is where the epicentre of risk lies. Here is a section from the conclusion of the article:  

Another stop-go cycle is picking up. Each time it is weaker, but it is still enough to delay the denouement until next year, and next year is an epoch away in market time.

Li Keqiang said on Wednesday that conditions are "bewildering" but that "the exchange rate will be kept basically stable at an adaptive and equilibrium level". He has many levers at his disposal but he is not omnipotent, and his own political future is suddenly in doubt.

Watch the offshore exchange rate for the renminbi. If that keeps spiraling further away from the inland rate, we will know that matters are out of hand, and then we really will have a global currency crisis. We are not there yet.

It has been a frightening summer. In the end you have to make a judgment call on whether this tangle of cross-currents in the world economy really is the start of another wrenching global crisis, or just a tremor. This time I refuse to join the pessimists.



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August 27 2015

Commentary by Eoin Treacy

Email of the day on China and market complexion

The following article, seeking to explain China's recent missteps in handling its domestic stock market, is quite interesting: And congratulations on writing some excellent (& cool-headed) analysis this week

Eoin Treacy's view -

Thank you for your kind words and I’m delighted you’re enjoying the commentary. David and I have been working together since the winter of 2003 and I started filling in for him on Comment of the Day in the summers from 2004 when he used to embark on his annual Land’s End to John O’ Groats cycling holidays. Back then you could be reasonably assured of quiet markets during the sleepy summer months but that all changed in the aftermath of the credit crisis when the role of algorithmic traders took centre stage.

Historically, traders use public holidays and vacation periods to initiate counter trend positions in the hope of triggering stops for a quick profit. Computer programs have taken this process to the extreme. The most recent instance was in late July when gold sank to a new low during Asian trading while Japan was on holiday. All too often we now see times most people are on holiday and market liquidity is low fuels volatility and this is particularly true of moves in single stocks. 



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August 24 2015

Commentary by Eoin Treacy

China Traders Say Stock Intervention Misguided Amid Slowdown

This article by Cindy Wang for Bloomberg may be of interest to subscribers. Here is a section: 

The Shanghai Composite Index plunged 12 percent last week, erasing all bar one point of the rebound from July’s $4 trillion selloff. For CMB International Securities Ltd. and KGI Securities Co., the gap between the growth outlook and China’s stock valuations, which are the highest among the world’s biggest markets, means further declines are inevitable.

While the benchmark stock gauge still traded 57 percent above the levels of a year earlier through Friday, data from industrial output to exports and retail sales depict a deepening slowdown. China’s first major growth indicator for August showed the manufacturing sector is at the weakest since the global financial crisis.

The government is “trying to defy market forces at overvalued levels,” said Daniel So, a strategist at CMB International Securities in Hong Kong. Policy makers should “focus on helping the real economy instead of the stock market,” he said.

 

Eoin Treacy's view -

The Chinese administration picked the 3500 level on the Shanghai Composite as a level they were willing to defend in July. At the time the level coincided with the 200-day MA but other than that was an arbitrary figure which was high relative to the levels the Index had traded at over the preceding six years. The Index fell through 3500 this morning and the big question for tomorrow’s trading will be whether the government will continue to defend that level or pick an easier to achieve target lower down.
 



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August 21 2015

Commentary by Eoin Treacy

What the China bears are missing

Thanks to a subscriber for this article from China Spectator which may be of interest. Here is a section:

First, let's address the issue of overstating the GDP. Critics point to the country's weak industrial production, export and investment figures as proof that the country is fudging its number. Lardy, a senior fellow at the Peterson Institute of International Economics, points to a salient fact that many people choose to ignore: the biggest contributor to the country's GDP is now the services industry.

"the skeptics have taken insufficient notice of China's progress in transitioning to its new model of economic growth, one less dependent on expanding industrial output, investment, and exports and more dependent on expanding private consumption expenditure¡±, he says.

Between 2011 and 2014, the size of the service sector as a share of GDP rose by about 4 percentage points to 48 per cent and, at the same time, the share of the industrial sector dropped to 43 per cent of GDP. This is a marked change from a decade ago, when the industrial sector accounted for 47 per cent of the GDP while the service sector only accounted for 41 per cent of the economy.

Considering the size of China's economy -- it's a $US10 trillion behemoth -- the transition is even more impressive. Many services are booming in China, the e-commerce sector grew by 31.4 per cent in 2014. The entertainment sector has been growing at an average of 17 per cent a year between 2010 and 2015. In health care, McKinsey predicts the growth in spending will grow from $US357 billion in 2011 to about $US1 trillion in 2020.

 

Eoin Treacy's view -

Unfortunately the services sector now accounts for more than 50% of GDP because the industrial and construction sectors have declined so much. The services, consumer discretionary, information technology and healthcare sectors are most likely to lead the Chinese economy in a recovery not least because they are receiving a great deal of government support. However this was priced in by the impressive outperformance of the Chinext Index and Shenzhen B shares earlier this year. 



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August 20 2015

Commentary by Eoin Treacy

Email of the day on the implications of Yuan devaluation for global companies

Surely a devaluation of the renmibi should be beneficial to non-Chinese companies that have their manufacturing facilities inside China. If they then export to the rest of the world they will earn other currencies and increase their profits. Which companies correspond to this scenario?

Eoin Treacy's view -

Thank you for raising this point but your question is a difficult one to answer since global companies tend to have manufacturing sites in a number of countries rather than solely in China. Until about five years ago you could have easily answered that garment and small goods manufacturers would fit your criteria but this is no longer the case since lower margin businesses have already migrated at least part of their operations abroad. 
 

 



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August 19 2015

Commentary by Eoin Treacy

Taiwan Stocks Fall to Two-Year Low on Economic, China Concerns

This article from Bloomberg News may be of interest to subscribers. Here is a section:

The wave of declines is rooted in the problems in Taiwan's economy, Alan Tseng, vice president at Capital Investment Management Corp. in Taipei, said on Wednesday. "The electronics industry is facing the toughest competition in 10 years because of China. The index will fall below 8,000."
     
There is a "looming new bear cycle" in emerging markets, with the weaker yuan adding competitive pressures to Taiwan, Malaysia, Thailand and Vietnam because of their dependence on exports, Lim Say Boon, the Singapore-based chief investment officer at the private banking unit of DBS Group, wrote in a report dated Aug. 17. The MSCI Emerging Markets Index entered a bear market on Aug. 12.

 

Eoin Treacy's view -

China's economy is transitioning away from fixed asset investment. If it is to be weaned away from infrastructure development and housing, the value of other sectors of the economy has to increase. This explains the concerted push to develop the service and high end manufacturing sectors. In this strategy China is following the same path tread by its neighbours in their development. 



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August 14 2015

Commentary by Eoin Treacy

Tin Prices Rise Despite Metals Rout

This article by Ese Erheriene for the Wall Street Journal may be of interest to subscribers. Here is a section: 

More than half of all demand for tin is accounted for by the solder which is used to assemble electronics devices such as smartphones and televisions, according to Fastmarkets, a metal research group.

China’s appetite for tin hasn’t fallen away in the way that it has for other base metals, such as iron ore, and China is tin’s biggest importer. Although this week’s devaluation of the yuan will make the metal more expensive in the Chinese market, electronics manufacturers are likely to be well-hedged and able to absorb price rises, said Ms. Bain.

Analysts see the biggest impact on prices coming from the supply side. Indonesia is the world’s largest tin exporter, with up to 35% of the global trade. New regulation this month bans all but refined products from legal mines leaving the country.

Myanmar, whose exports took off around 2011 after the fall of the ruling military junta led to the lifting of some sanctions, is a recent entrant into the tin market.

Now, though, output from Myanmar’s main tin mine is declining due to falling ore grades, and the challenges posed by the ethnic conflict raging nearby. The recent fall in tin prices also stymied investment in current and prospective tin mines, analysts say.

Eoin Treacy's view -

More than half of all demand for tin is accounted for by the solder which is used to assemble electronics devices such as smartphones and televisions, according to Fastmarkets, a metal research group.

China’s appetite for tin hasn’t fallen away in the way that it has for other base metals, such as iron ore, and China is tin’s biggest importer. Although this week’s devaluation of the yuan will make the metal more expensive in the Chinese market, electronics manufacturers are likely to be well-hedged and able to absorb price rises, said Ms. Bain.

Analysts see the biggest impact on prices coming from the supply side. Indonesia is the world’s largest tin exporter, with up to 35% of the global trade. New regulation this month bans all but refined products from legal mines leaving the country.

Myanmar, whose exports took off around 2011 after the fall of the ruling military junta led to the lifting of some sanctions, is a recent entrant into the tin market.

Now, though, output from Myanmar’s main tin mine is declining due to falling ore grades, and the challenges posed by the ethnic conflict raging nearby. The recent fall in tin prices also stymied investment in current and prospective tin mines, analysts say.



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August 11 2015

Commentary by Eoin Treacy

It is End of Era for Yuan Appreciation, Says Ex-PBOC Adviser Yu

This article by Bloomberg News may be of interest to subscribers. Here is a section: 

The era of yuan appreciation has come to an end with China’s move to lower the daily reference rate by 1.9 percent, said Yu Yongding, a member of China’s monetary policy committee when the currency was revalued in July 2005.

The yuan exchange rate will enter “a period of stabilization or even depreciation,” said Yu, now a researcher with the Chinese Academy of Social Sciences. The People’s Bank of China’s reduction to the daily fixing was a “symbol” for the change, although signs of yuan depreciation were evident before Tuesday’s move, he said.

The biggest slide of yuan since the peg ended a decade ago is a one-time adjustment, the PBOC said in a statement, adding it will strengthen the market’s role in the fixing and promote the convergence of the onshore and offshore rates. The move comes as sliding exports add to slowdown pressure and may add to concerns more capital will flow out of the nation.
While a weaker yuan may bolster exports in the short term, it’s a dangerous long-term way to increase shipments, Yu said.

“It would be a very wrong and stupid way to boost exports, and I don’t think China’s central bank will opt for that,” he said. “The depreciation is more of a recognition and respect of market forces.”
“The PBOC should reduce its intervention in the yuan,” Yu said. “If the market believes the yuan should be weaker, then just let it weaken.”

Yu said the yuan’s change will “for sure affect other currencies of emerging markets,” although the biggest deciding factor will be the policy stance of the U.S. Federal Reserve.

 

Eoin Treacy's view -

At The Chart Seminar in Singapore in April there was a great deal of interest in how one could hedge exposure to the Euro following its decline but not many people were interested in hedging the Renminbi since it was viewed as such a stalwart. Nevertheless, the time to hedge a currency is before the devaluation rather than after. Today’s move is not very large but it represents a powerful indication that the trend of Yuan appreciation is most definitely over. 



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July 24 2015

Commentary by Eoin Treacy

Email of the day on China support for the stock market

Do you really believe that China's propping up their stock market is any more different from the FED's Plunge Protection team's operations in the US markets?

Eoin Treacy's view -

Thank you for a question of general interest. I agree that China is certainly not the only country to offer assistance to its stock market in times of stress. The Fed has its Plunge Protection Team and Europe banned short positions during its sovereign debt crisis. Countries regularly allow their currencies to take the brunt of selling pressure with a number of commodity producers offering examples at present. Slashing interest rates and boosting money supply achieve many of the same goals. However what sets China apart is the scope of its support. 



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July 23 2015

Commentary by Eoin Treacy

A Simple China Trading Rule to Trounce the State-Run Market

This article from Bloomberg News highlights the extent to which the Chinese market is being supported at present. Here is a section:

The open-to-close strategy on CSI 300 Index contracts has returned 18 percent since July 8, when the mainland market bottomed. That compares with about 6 percent from buy and hold, after accounting for the rollover of contracts in the middle of this month.

“It seems to be an exploitable and workable strategy in the futures market, unless there is some unexpected big news,” said William Fong, an investment director for Asian equities at Baring Asset Management in Hong Kong.

The Shanghai Composite rose 2.4 percent at the close on Thursday, after opening with a 0.1 percent drop.

Like any pattern, its lifespan will diminish as more investors catch on, said Bernard Aw, a Singapore-based strategist at IG Asia Pte Ltd. There’s also the risk that state- backed buyers disappear as the Shanghai Composite approaches 4,500 -- a target Chinese brokerages cited when they unveiled a market support fund on July 4.

 

Eoin Treacy's view -

By loading purchases into the latter half of the day the Chinese authorities are buying a strong close which is what we continue to see in the chart below. On more than a few occasions since the low earlier this month the market has opened lower only to finish higher. This is achieving a rebound in the domestic market but the big question is to what extent the market can function without massive intervention. 



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July 16 2015

Commentary by Eoin Treacy

China ADRs: Long Way Home

Thanks to a subscriber for this report by Vivian Hao for Deutsche Bank which may be of interest to subscribers. Here is a section: 

The year 2015 has thus far seen a frenzy of privatization offers to US-listed Chinese companies, some with an intention of subsequent re-listing back home. Questions, however, have arisen about the practicality of this scheme, with virtually no successful precedents yet. In this report, we analyze major hurdles like legal complexities, IPO procedures and timing issues. VIE set-up and unwinding, and the new foreign investment law may further hinder the privatization process. Even with early signs of relaxation of some restrictions, developments are at a premature stage. Nonetheless, we shortlist and assess 'likely go-through bids', those that screen well for a bid and "maybe not's".

Going home is more easily said than done: challenges in privatization and…
Privatization requires a significant amount of immediate funding for the share repurchase, repatriation tax and professional fees. Funding, usually raised through equity capital and debt borrowings from a consortium, largely depends on the target’s ability to generate cash flow, its franchise value and to a lesser extent, its balance sheet strength. Further, the entire process is lengthy (a minimum of 6-12 months) to complete. In addition, the offerors could face litigation from unsatisfied minority shareholders on matters such as abuse of super voting power that might even derail the whole programme.

….challenges in re-listing: complications with the VIE structure 
While some controls have been eased, there is still a long way to go for the Chinese supervisory bodies to continue their relaxation of key restricted areas such as ICP (internet content provider) license, which is a pre-requisite for almost all Chinese internet companies. Those intending to unwind these structures and return home face the risk of being disqualified on other key regulatory pre-requisites, including but not limited to: a) a continued track record of profitability after repatriation tax liabilities, b) unchanged ownership structure, c) consistent historical business operations for the entity intended for listing, d) autonomy of the company over its operations and decision-making power, and e) fairness in related party transactions.

Eoin Treacy's view -

A link to the full report is posted in the Subscribers' Area.

It is possible that the extreme volatility on China’s mainland market will deter executives from taking the decision to delist from the USA and relist in China in the same way that the surge in mainland prices encouraged them to make the decision to relocate in the first place. Generally speaking US listed Chinese companies did not participate in the run-up experienced by their mainland counterparts but have experienced declines though perhaps not as extreme as the mainland. The potential for greater upside potential for the owners is therefore perhaps the most likely motivation for relisting. 



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July 14 2015

Commentary by Eoin Treacy

China Click Through

Eoin Treacy's view -

It’s been a tumultuous month with China collapsing then staging an impressive rebound amid some extreme policy measures to stem the decline. This is not a normal situation and China is not a normal market because the state plays such a large role in controlling the trajectory of prices. In an effort to gain a greater insight into how the market is reacting to this situation I clicked through a large number of Chinese shares. 

I first started by looking for shares that might have bottomed early so performed a Bloomberg search for those that had hit 52-week lows between July 1st and 8th. The Shanghai Composite hit its low on the 9th. This gave me a list of 300 shares so I filtered it by those that still have a positive performance month to date. I then took a look at all 300 charts. 

 



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July 09 2015

Commentary by Eoin Treacy

China Closed End Funds

Eoin Treacy's view -

Investors and traders headed for the doors in China related investment vehicles as mainland and Hong Kong shares crashed lower over the last month. Foreign flows reversing through the Stock Connect were a major influence in the speed of the decline and contributed to the panicky environment.  However the government is pulling out the stops and there were more than 100 shares on the Index up their 10% limit today. 

At The Chart Seminar we teach that “Acceleration is an ending of unspecified duration”. There is no doubt that the Chinese markets accelerated lower and that this has the look and feel of climactic action. Today’s strong rebound following yesterday’s steadying suggests shorts are under pressure and bargain hunters are active. 

 



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July 09 2015

Commentary by Eoin Treacy

Performance Filter for Hong Kong listed shares

Eoin Treacy's view -

The International Equity Library’s Performance Filter allows you to scan through the extensive lists of shares in the library and rank constituents by their performance over different time frames. Considering just how quickly Chinese shares have fallen and the impressive rebounds I thought it might be instructive to highlight some of the shares which have had the largest declines and perhaps more importantly those which have been resilient throughout. 



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July 06 2015

Commentary by Eoin Treacy

China Unleashes More Steps to Stem $3.2 Trillion Stock Rout

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

The outstanding balance of margin loans on the Shanghai Stock Exchange dropped for a ninth day on Thursday, sliding to 1.29 trillion yuan in the longest stretch of declines since the city’s bourse began compiling the data. A fivefold surge in borrowing had helped propel the benchmark stock index to a 150 percent advance in the 12 months through June 12.

The authorities are determined to shore up the $6.9 trillion stock market even if it means reversing reforms, according to Partners Capital International Ltd. The Communist Party’s Central Committee pledged in 2013 to make markets “decisive” in allocating resources and to limit the government’s role to maintaining stability.

“They have the whatever-it-takes mentality,” said Ronald Wan, chief executive officer of Partners Capital International in Hong Kong. “Early on Monday, the market may show a knee-jerk reaction to the measures but I am not sure how sustainable it will be. Whether it’s a rally or a decline, it’s policy driven, not market-oriented.”

And

There won’t be any new IPOs in the near future and the number and value of share sales will be significantly reduced once they resume, the CSRC said in a statement on its website Sunday.
The 21 brokers pledged not to reduce any proprietary investments in the equity market as long as the Shanghai Composite Index stays below 4,500, the association said. The measure closed at 3,686.92 on Friday. Listed brokers will actively buy back outstanding shares, while encouraging their parent companies to increase holdings, according to the statement.

The plan by trading firms to boost shares may have only “a fleeting effect” given daily turnover is nearing 2 trillion yuan, said Hao Hong, China equity strategist at Bocom International Holdings Co. in Hong Kong.

“This 120 billion yuan won’t last for an hour in this market,” Hong said by phone from Beijing Saturday. “It might benefit blue-chip stocks, as investors may see them as value, but the bursting of the bubble in small-cap/tech stocks is likely to continue.”

 

Eoin Treacy's view -

China remains a policy driven market but is presented right now with the unwinding of what has been an historically large build up in leverage. This is now declining and measures are underway to remove supply from the market in order to support prices. Allowing the state pension fund to buy shares, cancelling IPOs, funds and brokerages intervening to buy are all aimed at imposing a floor. 



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June 30 2015

Commentary by Eoin Treacy

China Turns to Market-Boosting Playbook That BofA Calls Obsolete

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

“The margin call, forced sale, margin call vicious cycle can quickly develop a momentum of its own,” Cui, the head of China equity strategy at Bank of America in Singapore, said in an e-mail on Monday.

Doubts about policy makers’ ability to prop up the world’s second-largest stock market are spreading after a weekend interest-rate cut and speculation that regulators will halt IPOs failed to prevent the Shanghai Composite from tumbling into a bear market. The gauge would need to fall a further 13 percent to match its average downturn since 1990.

“Any support the government can provide would be short lived,” Chad Padowitz, the Melbourne-based chief investment officer at Wingate Asset Management Ltd., said by phone. “The only real support they can provide over time is providing a reasonably balanced, growing economy. That’s the best thing they can do. Anything they do short term, decreasing interest rates to support the market or things like that, are somewhat foolish.”

 

Eoin Treacy's view -

Expectations for future upside potential deteriorate within a range not least because they are boring and disappointing relative to the trending phases. We define ranges as explosions waiting to happen.  However, the conditioning process of these congestion areas means that the strength of the breakout is often surprising to people most familiar with the market. Following an impressive breakout from a medium-term range prices will rally for as long as it takes supply to overwhelm demand. The test of whether a new uptrend can persist into the medium-term is in the extent to which the breakout can be sustained in the ensuing period of consolidation. This is what we term the first step above the base. 



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June 24 2015

Commentary by Eoin Treacy

Gloves Off as China Banks, Alibaba Invade Others Turf

This article from Bloomberg News may be of interest to subscribers. Here is a section:

The battle will play out entirely online: The banks aren’t planning any warehousing of inventory, leaving that to the merchants. MYbank and Tencent Holdings Ltd.’s online WeBank, which launched in December, plan no physical branches.

WeBank started its consumer lending in May, where borrowers without collateral can get as much as 200,000 yuan at an annualized rate of 18 percent.

MYbank is to begin operating on Thursday as part of Alibaba’s finance arm, Zhejiang Ant Small & Micro Financial Services Group Co. It’s one of a wave of new private banks being licensed by the government to target small loans and aims to use facial-recognition software to let users set up accounts.

Alibaba already has expanded into e-finance, with its Alipay payments system and Yu’E Bao money-market fund.

“The potential of web-based services, be it financial or retail, is huge in China, so it’s not too late to join the game,” said Wang Weidong, an analyst at Internet consultancy iResearch in Beijing.

Eoin Treacy's view -

Established banks have been hamstrung by strict rules on deposit and lending rates that upstarts like Alibaba and more recently Tencent have been able to circumvent. This has allowed a new type of bank to develop online where savers are offered highly attractive rates. So far regulators have not ruled on the legitimacy of their money market funds which has allowed them to proliferate. Since major banks are precluded from this new business line they are trying to hit online merchants’ where it hurts i.e. retail sales. 



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June 19 2015

Commentary by Eoin Treacy

The State Of U.S. Listed China Based Companies Going Private

This article from Benzinga may be of interest to subscribers. Here is a section:

We believe part of the motivation for management teams to welcome going private deals is the belief by many investors that the China "A" share stock market may see a sharp correction within the next several months.

The Chinese "A" share stock market contains exchanges such as the Shanghai Stock Exchange and the Shenzhen Stock Exchange, where shares of China mainland-based companies are listed. "A" shares are generally only available for purchase by China mainland citizens.~

Thus, ChinaHyrbid management teams and private equity firms may be scurrying to take advantage of the huge valuation gap between ChinaHyrbids and "A" share companies – before the "A" share market corrects – by going private and then eventually re-IPOing in China at much higher valuation multiples.

For example, the Chinex Price Index (SHE: 399006), which is the index that includes small cap growth companies in the China A share market, has an average P/E of 115 as of June 18, 2015. However, the non-binding go private price of QIHU of $77.00 is only 22 times of the analyst estimated EPS in 2015.

 

Eoin Treacy's view -

The Chinese government views the internet as just another organ of the Party’s apparatus like roads or TV stations. The challenge they have is that private sector entrepreneurs who have spearheaded the development of the Chinese technology sector have lower participation rates in the Party than other sectors. An effort has been underway to recruit more people from the technology sector into the administration. Wishing to see more companies take out listings on the mainland rather than decamping to the USA, Singapore or Hong Kong can be seen in these terms. It also helps explain the rationale behind the sweeteners currently on offer for returning companies. 



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June 11 2015

Commentary by Eoin Treacy

Email of the day on divergence in performance between Hong Kong and mainland China:

The rally in A-shares has been impressive, while the H-shares have been lagging behind in a big way. What is your view on this? I also attach a chart showing relative performance. I have lightened my position in the HSCEI but wonder if I should be looking to increase it again.

Eoin Treacy's view -

Thank you for this topical question. The Hong Kong Dollar is pegged to the US Dollar so zero interest rates have propelled property prices on the island to dizzying heights. There is a fear that when interest rates start to rise, Hong Kong will experience some pain. This is at least part of the reason the Hang Seng has underperformed but is less of an issue for the Chinese Enterprises Index (H-Shares). 



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June 10 2015

Commentary by Eoin Treacy

Mainland Chinese stocks fail to make the MSCI's emerging market index, but that won't be the case for long

This article by David Scott for Business Insider may be of interest to subscribers. Here is a section: 

The answer is no, not yet, but it could happen before the next MSCI annual market classification review scheduled for June 2016.

On a posting on its website the MSCI noted that it “expects to include China A-shares in its global benchmarks after a few important remaining issues related to market accessibility have been resolved”.

Here’s Remy Briand, MSCI managing director and global head of research, on the decision announced this morning.

“Substantial progress has been made toward the opening of the Chinese equity market to institutional investors. In our 2015 consultation, we learned that major investors around the world are eager for further liberalization of the China A-shares market, especially with regard to the quota allocation process, capital mobility restrictions and beneficial ownership of investments. Because MSCI’s client base is so large and diverse, we have a strong interest in ensuring that remaining issues are addressed in an orderly and transparent way.”

 

Eoin Treacy's view -

The Chinese now have a blueprint for what they need to do to gain access to a massive pool of international liquidity. Considering the fact they have a vested interest in diversifying their domestic risk in sectors that drove the breakneck pace of development, we can expect measures to fulfil MSCI’s requirements over the next year. 

Since the answer was a ‘not yet’ instead of a ‘no’ the mainland stock market has been reasonably steady not least because it has been primarily driven by domestic demand. Nevertheless, the progression of higher reaction lows will need to hold if a deeper and potentially lengthy process of mean reversion is to be avoided. 

 



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June 09 2015

Commentary by Eoin Treacy

Bond Market Storm Finally Hits Junk Debt as Buyers Flee ETFs

This article by Lisa Abramowicz for Bloomberg may be of interest to subscribers. Here is a section: 

While ETFs are a small slice of the junk-bond market, they’re usually a telling gauge of sentiment, and the outflows are significant compared with the $6.7 billion of total deposits into these funds so far in 2015, Bloomberg data show.

Government yields in Europe and the U.S. are rising in the face of improving economic data and signs inflation is picking up (or, in Europe’s case, that there’s any inflation at all.) Yields on 10-year Treasuries have surged past 2.4 percent, reaching the highest level since Oct. 6, from 1.8 percent in April.

And now the $2.2 trillion world junk-bond market is losing steam, at a time of growing questions about how long stocks can keep rallying. The debt tends to be a leading indicator, and its deterioration bodes poorly for stock investors, Tchir said.

While the selloff is short-lived enough that it may just prove a blip in a market propped up by central-bank stimulus, it may also portend broader pain ahead.

 

Eoin Treacy's view -

Corporate bonds of every hue are priced against a government benchmark. This means when Treasury yields rise corporate yields follow. We see this in the yield of BB bonds which are now breaking out of a two-year range.

The spread, however, suggests that the yield on high yield is not rising faster than Treasuries.



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June 09 2015

Commentary by Eoin Treacy

China Water

Thanks to a subscriber for this report from Deutsche Bank which may be of interest. Here is a section:

The newly-announced Water Pollution Control Plan and the unprecedented government focus on environmental protection reaffirm our positive view on the water industry. Large-cap SOE stocks have been traded strongly, we now see more upside for smaller SOE players. They have a higher growth rate, more potential to surprise and beat market expectations, and a more attractive valuation. We initiate coverage on SIIC Environment (SIIC) and China Everbright Water (CEW) with Buy and designate them as our sector top picks.

Pollution control plan unveiled; over RMB1.9tr investment needed by 2020
The Water Pollution Control Plan released in April will lead to over RMB1.9tr of total investment in the water industry by 2020, as estimated by the Ministry of Environmental Protection. More detailed implementation plans and the 13th five-year plans will be announced by central and local governments in 2H15-
2016, unveiling tightening discharge rules, paving the way for water tariff hikes, and promoting the involvement of specialist operators.

Strong growth upholds premium valuation, leading SOEs to gain market share
New project wins should remain strong over the next few years, supporting premium valuations for the sector. Leading SOEs can gain market share in the currently scattered municipal water industry, leveraging on their better relationship with local governments and access to cheap financing. Management with a commercially-driven mindset, good employee incentive plans, and a wider footprint also help. BEWG, as the role model for the new SOE, has proven to be successful. We believe SIIC and CEW can emulate BEWG’s strong growth and emerge as leading SOE players in the sector.

 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber's Area.

Southern China is a tropical region with abundant rain as well as snowmelt run-off from the Himalayas. Northern China on the other hand is semi-arid and is constantly in need of additional water. Deforestation over the last number of decades has only exacerbated this problem. The breakneck pace of industrialisation has put additional pressure on the country’s water resources and the government is finally taking heed of the dire environmental warnings it has been presented with.

On my return from China in April I created a list of Chinese water companies in the Eoin’s Favourites section of the Chart Library. 



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June 03 2015

Commentary by Eoin Treacy

Email of the day on the upcoming MSCI decision to admit A-Shares to the Emerging Markets Index:

How do you think the H-shares will be affected if MSCI (and later FTSE) add the A-shares to their emerging market indices?

The 2 futures which give easy access to the Chinese market at the moment are the Hang Seng China enterprise index and the FTSE China A-50 index.  Which of these do you think is the better bet?

Eoin Treacy's view -

China has been making efforts to open up its capital market to foreign investment. The Hong Kong Shanghai Connect is the most visible measure and the touted expansion of the system to Shenzhen suggests they are still open to additional expansion of the conduit. However it is open to question whether what has already been achieved is enough to warrant a positive decision by MSCI.  This article from the Wall Street Journal carries additional information. Here is a section:

The looming decision underscores the disconnect between the expanding role China plays in the world economy and the limited weighting China has in global investment portfolios.

In the MSCI All Countries World Index, a global benchmark, China has a weighting of 2.7%, although the country’s economy accounts for 15% of global gross domestic product.

The MSCI emerging-market index has a 25.7% allocation to China, but primarily comprises Chinese companies listed in Hong Kong.

For decades, regulatory restrictions and opaque rules set by Chinese authorities have kept foreigners away. In addition, concerns about the health of China’s economy, corporate governance and the earnings multiples that many Chinese shares trade at have led many managers to hold even fewer Chinese stocks than these benchmarks suggest.

As of 2014, foreign investors held about 3% of the Chinese market, compared with a 12% foreign stake in India, according to Qi Wang, partner at Shanghai MegaTrust Investment, an A-share fund manager based in China.



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June 03 2015

Commentary by Eoin Treacy

Finally! The yen breaks 30-year support, a new round of currency turmoil begins

Thanks to a subscriber for this report by Albert Edwards for SocGen which may be of interest. Here is a section: 

Why is China’s lurch into deflation on the GDP deflator, but not the CPI measure, so important? We have pointed out before (unfortunately we don’t have space for the chart here) that in Japan during the 1990s the thing to watch to see the havoc that deflation was wreaking on nominal revenues and debt/income loads was not the CPI, but rather the GDP deflator, which fell far faster than the CPI. Economic agents produce far more than just consumer goods and services and the GDP deflator is a much wider basket of goods and services and includes exports and investment goods. Clearly the descent into outright GDP deflation in China explains the more aggressive, even slightly panicky, policy easing measures there.

We also pointed out last week that China’s move into BoP deficit imposes a substantial monetary headwind on the economy. China may wish to keep the renminbi stable at this time while the IMF is currently considering including it in the SDR currency basket. But the economy is simply not in a position to withstand a major yen decline bringing down the currencies of its competitors in the region (and the additional deflationary impulse). I remain convinced that China must start guiding its currency down against the dollar and it can do that easily now it has a BoP deficit by doing absolutely nothing (ie not intervening any longer to hold it up)! China will also take the IMF’s recent declaration that the renminbi is no longer undervalued as justification for these actions - link.

Worrisome deflation is already being imported into the US, especially from Japan (see chart below). China (blue line) has yet to participate, but a further round of Asian devaluations will inevitably see waves of deflation heading westwards – as in 1997/98. Watch this data closely.

Eoin Treacy's view -

A link to the full report is posted in the Subscriber;'s Area. 

The Yen has been a catalyst for competitive currency devaluation across the Asian region since the BoJ initiated its QE program in 2012. As the Yen extends its downtrend there is potential that it will act as an additional incentive for regional competitors to devalue their currencies.

The US Dollar broke out against the Yen last week and a sustained move below ¥122 would be required to begin to question medium-term scope for continued upside. 



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May 28 2015

Commentary by Eoin Treacy

China Most-Wanted: Nabbed in New Jersey

This article from Bloomberg News may be of interest to subscribers. Here is a section:

China’s most-wanted fugitive, an official accused of embezzling more than $40 million, is in U.S. custody, according to the Communist Party’s anti-graft agency.

Yang Xiuzhu, who fled China in 2003, was detained after entering the U.S. using a fake Dutch passport last year, according to the party’s Central Commission for Discipline Inspection.

In the first confirmation of Yang’s whereabouts in a decade, the commission’s International Cooperation Department said she escaped from detention in the Netherlands in May 2014 - - after being rejected for political asylum and before she could be sent back to China.

Eoin Treacy's view -

Considering the vast sums of money that change hands within state owned organisations my first reaction to this news was “Is that all?” $40 million might sound like a lot of money but is in fact very little when one thinks about the personal and family wealth accrued by the ruling cadres.

Nevertheless this is a PR coup for the Chinese administration. China’s anti-corruption chief and Politburo member Wang Qishan announced in March he will be visiting the USA this summer. Following today’s news we can now put that visit in a wider context. The Party wishes to throw media attention on members who have absconded with millions of Dollars while ensuring that the process of internal reform sustains the status quo. 



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May 26 2015

Commentary by Eoin Treacy

IMF Says Yuan No Longer Undervalued Amid Reserve-Status Push

This article by Fion Li for Bloomberg may be of interest to subscribers. Here is a section:

The yuan still has some way to go before it can become a major reserve currency, former Federal Reserve Chairman Ben S. Bernanke said Tuesday in Taipei. The IMF requires that a currency is “freely usable” to be included in its SDR basket.

Endorsement by the Washington-based lender would lead to about $1 trillion being switched into Chinese assets over the next five years, according to an estimate this month from Standard Chartered Plc. AXA Investment Managers estimated some 10 percent of the $11.6 trillion of global reserves would flow into yuan assets, though it didn’t give a timeframe.

China should allow greater flexibility in its exchange rate, with intervention limited to avoiding disorderly market conditions or excessive volatility, said the IMF’s China mission, which is led by the lender’s deputy director of Asia and Pacific Markus Rodlauer. The statement said it contains the views of the IMF staff involved and has not yet been endorsed by the institution’s board.

The yuan rose 0.6 percent versus the dollar in the past 12 months, while Brazil’s currency dropped 28 percent and Russia’s slid 32 percent. China’s productivity will probably rise more rapidly than the rest of world so its exchange rate will need to appreciate to take account of that, David Lipton, the IMF’s No.2 official, said at a briefing Tuesday in Beijing.

 

Eoin Treacy's view -

By remaining relatively steady against the Dollar over the last year, the Renminbi has appreciated against a wide basket of other currencies not least the Euro, Yen and Korean Won which account for more of its trade than the US Dollar. The currency has unwound almost the entire 1993 devaluation suggesting that the CNY6 level relative to the US Dollar is probably about as strong as the Chinese want to see the currency. 
 

 



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May 15 2015

Commentary by Eoin Treacy

Netflix Tops $600 a Share, Said to Be in Talks to Enter China

This article from Bloomberg may be of interest to subscribers. Here is a section: 

Entering China would let Netflix, the broadcaster of “House of Cards” and “Orange Is the New Black” take advantage of what’s forecast to be explosive growth in online TV in the nation of 1.4 billion people. The market is estimated to almost triple to 90 billion yuan by 2018, according to Shanghai-based Internet consultant IResearch.

A local partnership would be essential given the Chinese government’s strict controls over licensing for online content. Netflix wants a partner that has licenses for content on all devices -- including mobile phones, computers and set-top boxes, according to the people. China’s State Administration of Press, Publication, Radio, Film and Television has given Internet TV licenses to seven companies, including Wasu.

Wasu didn’t respond to an e-mail seeking comment. Two phone calls to Wasu’s general line weren’t answered.

 

Eoin Treacy's view -

Gaining a foothold China would be a major prize for Netflix but it will have to tread carefully and approach the right partner if it is to succeed in this venture. Additionally there are a number of Chinese competitors it will need to face down regardless of which partner it chooses. 



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May 07 2015

Commentary by Eoin Treacy

Alibaba Shares Surge as Chinese E-Commerce Giant Replaces CEO

This article by Lulu Yilun Chen and Tim Culpan for Bloomberg may be of interest to subscribers. Here is a section: 

Alibaba Group Holding Ltd. shares surged the most intraday since September as the company named a new chief executive officer, nine months after a record initial public offering.
China’s biggest e-commerce operator posted a 45 percent increase in revenue.

Daniel Zhang will become CEO on May 10, replacing Jonathan Lu, who will remain on the board as vice chairman, the company said Thursday. The change was announced as Alibaba’s sales rose to 17.4 billion yuan ($2.8 billion) in the three months ended in March, beating analysts’ estimates.
Zhang hopes to build a global platform beyond China, part of a strategy that is “a long journey,” he said in an interview Thursday on Bloomberg Television.

Alibaba’s market value had plunged as much as $90 billion from a November peak amid concern about slowing economic growth and criticism from the Chinese government about its business practices. Billionaire Chairman Jack Ma elevated Zhang after the chief operating officer helped turn the Nov. 11 “Singles’ Day” shopping promotion into the company’s biggest sales day.

“Perhaps Jack is sending a signal to the capital markets and the regulator that he’s willing to make changes,” said Mike Clendenin, managing director of RedTech Advisors.

Eoin Treacy's view -

Alibaba’s honeymoon period is over. Investors are now focusing on the success of its business model in delivering on the promise of international domination. One of the issues it faces with competing internationally is the long shipping times required to move goods from China to the end customer. Solving this challenge requires a great deal of investment in logistics and local warehousing within target markets. As a result progress is slow. 



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April 30 2015

Commentary by Eoin Treacy

US listed China

Eoin Treacy's view -

The opening of the Shanghai-Hong Kong Stock Connect has acted as a catalyst for the revival of interest in the Chinese stock market since November. Since then the mainland administration has followed with market support measures including lower bank reserve requirements, cutting interest rates, removing obstacles to property speculation, opening the market for equity options as well as a politicians talking the market higher. 

The Shanghai A-Share Index began to rally from July and surged higher in October led by brokers, insurance companies, banks and railroads. Following consolidation between January and March it has rallied for the last eight consecutive weeks and is increasingly susceptible to consolidation of those gains. 

While Hong Kong had similar valuations to mainland China it did not rally in line with the mainland. Part of the reason for this is because of the civil unrest that roiled investor sentiment late last year. In fact while the stock connect is a two-way channel between the mainland and Hong Kong and has been open for six months, the mainland to Hong Kong avenue only hit its limit for the first time this month. Hong Kong is now playing catch up with the mainland listed market. 

 



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April 27 2015

Commentary by Eoin Treacy

Love em or Hate em, China Stocks Are Red Hot in Options Market

This article by Belinda Cao for Bloomberg may be of interest to subscribers. Here is a section: 

The stock rally has prompted authorities to roll out measures this year that signal an effort to temper gains and prevent another boom-and-bust cycle after a record number of novice investors entered the market. China’s securities regulator started a campaign on Friday to crack down on stock- market manipulation and insider trading, the latest effort to reduce risks.

The China Securities Regulatory Commission will target trading by brokerage employees using non-public information, and market manipulation, including of futures prices, the CSRC said in a Friday statement on its website.

Chinese officials are trying to find a balance between weeding out speculators and encouraging the stock market to play a bigger role in helping companies raise funds as the government reins in credit expansion. The CSRC and central bank Governor Zhou Xiaochuan have endorsed the flow of funds into equities.

Eoin Treacy's view -

The speed and size of the breakout on China’s stock market creates a quandary for late comers because of the risk that a consolidation of short-term gains could be outsized relative to what one might be used to, but “normal” relative to the size of the breakout. 

As with any breakout from a long-term range there is a great deal of trepidation among those who were previously bearish because they are now either losing money or at least receiving margin calls on short positions. The response is either to switch sides and become a bull (Hugh Hendry for example) or to double down and become even more bearish. 

The increase in short interest may be a signal that long investors are hedging their exposure, the volatility of the move to date is fertile ground for options strategies and/or that bears are increasing their bets. We will continue to be guided by the price. 



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April 23 2015

Commentary by Eoin Treacy

High asset turnover no longer a good strategy for developers

Thanks to a subscriber for this report from Deutsche Bank focusing on the Chinese property market. Here is a section: 

Mere sales volume recovery would not improve profitability of developers
While we expect further recovery in the physical property market, given policy relaxations, the recovery could just be a "profit-less" or profitless one for some developers (like those with expensive landbank, high gearing, high financing costs). The strategy of high asset turnover to drive earnings growth has proven ineffective as earnings growth has consistently lagged behind sales growth in the past two years. This prompted some developers to start shifting away from the high asset turnover strategy that they had been adopting in recent years. Meanwhile, we see little scope for profitability to rise significantly in the near term without a marked correction in land prices or a sharp rebound in ASPs. 

Contracted sales growth not directly translate into corresponding profit growth 
Some market participants believe that strong contracted sales growth will lead to corresponding strong earnings growth. However, by comparing contracted sales with earnings, we found that earnings growth has consistently lagged behind contracted sales growth, especially for developers focusing on high asset turnover. Contracted sales for leading developers saw YoY growth of 30% and 17% respectively in 2013 and 2014, but the corresponding core net profit growth was only 21% and -7%, while core EPS growth was lower at 19% and -10% respectively. For developers focusing on high asset turnover, the discrepancy between sales and earnings growths was more severe, reflecting the key industry challenges – land prices rising faster than home prices and rising financing costs from higher debt levels (used to drive higher growth). For example, Country Garden had contracted sales growth of 123% and 22% in 2013 and 2014 but had core EPS growth of only 16% and 10%, while Sunac had sales growth of 61% and 30% in 2013 and 2014 but achieved core EPS growth of only 17% and 4%. Adjusting for some aggressive interest capitalization, core net profits of the key developers were on average 41% and 106% below reported figures, suggesting that actual profitability is even lower

 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber's Area. 

There has been a great deal of commentary on the outlook for the Chinese property market over the last decade as prices soared. Two of the primary reasons for the outperformance were the dearth of other investment opportunities and the availability of credit. From 2009 the government clamped down on overbuilding in an attempt to rein in excesses. This had a major impact on property developer shares which spent much of the last five years ranging. 



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April 21 2015

Commentary by Eoin Treacy

China Trip Report

Eoin Treacy's view -

The first time I visited China was in 2005 and I didn’t stop coughing until we got back on the plane to leave. The pollution was such that you couldn’t see more than 100 metres in any direction for the entire time we were there and I didn’t think to wear a face mask. It was November. 

Utilities burn large quantities of coal in North China between October and March for heating which results in heavy smog across a wide swathe of the country. From April the weather heats up so heating demand goes down and the air improves. I’ve been to Beijing in the summer and autumn but this was the first time in the spring and the air was cleaner than I’ve ever seen it before. Visibility was up to about a mile and there was a powdery blue sky overhead. 

Mrs. Treacy has often talked about the dust storms that hit Beijing in the spring as well as the willow catkins that fill the air. We experienced both on this occasion. The catkins in particular looked like snow on the freeway and delighted my daughters. 

 



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April 20 2015

Commentary by Eoin Treacy

Report from The Chart Seminar in Singapore

Eoin Treacy's view -

Last week’s event was another enjoyable visit to Singapore and was an apt time to ruminate on Lee Kwan Yew’s legacy of turning a tropical backwater into a first world private banking and high end manufacturing centre. Delegates came in from Argentina, Australia, Japan and of course Singapore which led to some interesting and varied discussions.

Singapore’s stock market is being led higher by the banking sector and shares a high degree of commonality with Taiwan and South Korea. The Index is somewhat overbought in the short-term and some consolidation of recent gains in looking likely. However a sustained move below the 200-day MA, currently near 3400, would be required to question medium-term scope for additional upside.

As one might imagine the main topic of conversation was on the outlook for the Asian region not least following China’s explosive breakout over the preceding three weeks.  Delegates were also interested in the outlook for the European region and we also looked at the S&P 500. We looked at the oil price and a number of related instruments. We also looked at gold prices and a number of miners, select Singapore shares as well as a wide range of international bank shares. We also had a wide ranging discussion on currencies. 



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March 30 2015

Commentary by Eoin Treacy

Australia to join China-led bank despite US opposition

This article by Jamie Smyth for the Financial Times may be of interest to subscribers. Here is a section: 

Australia plans to join the Asian Infrastructure Investment Bank, it said on Sunday, reversing a previous decision to stay out of the China-led institution. But it has placed conditions on its future membership of the bank in an attempt to mollify concerns expressed by its main military ally, the US.

“The government is today announcing it intends to sign a memorandum of understanding on the Asian Infrastructure Investment Bank, which would allow Australia to participate — as a prospective founding member — in negotiations to set up the bank,” the prime minister’s office stated.

The decision followed moves this month by the UK, France, Germany, Italy and South Korea to join the AIIB. US officials have privately urged allies to stay out of the new bank, at least until Beijing addresses concerns about governance standards. Some in Washington view China’s launch of the AIIB as an effort to undermine the influence of the US-based World Bank.

On Saturday, Russia’s first deputy prime minister, Igor Shuvalov, said his country plans to join the AIIB. Denmark, Brazil and the Netherlands will also participate, China’s finance ministry said at the weekend.

 

Eoin Treacy's view -

Money talks. Additionally, Europe needs investment and the ear of an emerging superpower. It was a miscalculation on the part of the White House to so vocally oppose participating in the Asian Infrastructure Investment Bank (AIIB) not least as it is quickly gaining critical mass without countries insisting on more detail regarding how it will function. 

To date, China’s overseas infrastructure deals, often in return for access to resources, have tended to be one sided, carried high interest rates and there have been issues with accessing funds. It remains to be seen just how the AIIB will function but it is looking increasingly likely that it will be able to do so with the full backing of countries that pride themselves on their high standards of governance.  

 



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March 25 2015

Commentary by Eoin Treacy

Beijing to Shut All Major Coal Power Plants to Cut Pollution

This article from Bloomberg News may be of interest to subscribers. Here is a section: 

The facilities will be replaced by four gas-fired stations with capacity to supply 2.6 times more electricity than the coal plants.

The closures are part of a broader trend in China, which is the world’s biggest carbon emitter. Facing pressure at home and abroad, policy makers are racing to address the environmental damage seen as a byproduct of breakneck economic growth. Beijing plans to cut annual coal consumption by 13 million metric tons by 2017 from the 2012 level in a bid to slash the concentration of pollutants.

And

Nationally, China planned to close more than 2,000 smaller coal mines from 2013 to the end of this year, Song Yuanming, vice chief of the State Administration of Coal Mine Safety, said at a news conference in July.

 

Eoin Treacy's view -

I’ll be stopping off in Beijing on my way to Singapore next week and I’m looking forward to seeing first-hand what measures, if any,  have been taken to tackle the pollution problem. Replacing coal fired power stations with natural gas plants is a hugely positive development which is likely to have some far reaching repercussions. 



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March 24 2015

Commentary by Eoin Treacy

More upside amid stronger easing; UG property & banks, DG healthcare

Thanks to a subscriber for this report from Deutsche Bank focusing on China’s H-Share market. Here is a section: 

We have been positive on Chinese equities for 2015 but caution readers of a weak start to the year (see 2015 China Outlook). After H-shares’ underperformance vs. DM, AsiaPac ex Japan and A-shares YTD, we now see more upside risks than downside ones and turn more positive on the market, in view of the following:

We expect Chinese policy-easing efforts to intensify in 2Q15 (see policy easing cycle may start soon), including monetary, fiscal and property relaxation, given the below-target 1Q15 growth and the “bottom-line”- focused reaction function reiterated by Premier Li during the NPC. We see lower market rates and resumed credit growth ahead, and our economist forecasts GDP to bottom in 1Q15 and edge up to 7.2% in 4Q15. ? We believe the earnings cut cycle will come to an end by April, as the disappointing FY14 results season wraps up and consensus estimates get closer to our top-down forecasts. For FY15, we look for more evidence of cost reduction among mid-stream sectors to reinforce our expectation of a margin-driven non-financial earnings recovery.

We see loosening global liquidity conditions and funds inflow as catalyzing catch-up with A-shares, considering 1) the Fed finally joined forces with other major central banks on the dovish side and suggested “lower for longer” rates over the coming quarters; 2) still deeply discounted H-share valuations suggest light investor positions; and 3) improving cyclical outlook and expediting reform in China.

 

Eoin Treacy's view -

A link to the full report is posted in the Subscriber's Area. 

Liquidity is abundant. Any prospect of the Fed aggressively raising interest rates, however remote, was dismissed at last week’s meeting. If the Bank of England is any guide, the Fed’s balance sheet can remain at its current level for a prolonged period after the end of QE. With the ECB and BoJ engaged in QE and a host of other central banks cutting interest rates it is safe to conclude that there is no shortage of cheap abundant capital for investment. 

There has been a great deal of commentary in financial circles about how elevated cyclically adjusted P/E ratios are, with some concluding that stock markets are fully valued.  On one hand we could consider how likely valuations are to become overvalued, but the other way of looking at it is to ask what is still cheap. 



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March 19 2015

Commentary by Eoin Treacy

Yuan Surges Most in a Year as Fed Eases Capital Outflows Concern

This article from Bloomberg news may be of interest to subscribers. Here is a section:  

China’s capital outflows concern may be tempered after the Fed’s comments, and the PBOC will likely become more flexible as worries about a weaker yuan ease, Tommy Xie, a Singapore-based economist at Oversea-Chinese Banking Corp., said in an interview.

China is in talks with the International Monetary Fund to include the yuan in the institution’s basket of reserve currencies, PBOC Deputy Governor Yi Gang said in Beijing on March 12. The currency will decline 0.22 percent the rest of this year to 6.21 a dollar at the end of 2015, according to the median estimate in a Bloomberg survey.

“The fundamentals are still bullish for the yuan with the government’s plan to make it a reserve currency,” said Scotiabank’s Tihanyi. The PBOC fixings also send a “strong signal” that the authorities favor a stable currency, he said.

 

Eoin Treacy's view -

The Renminbi can be viewed from a number of different perspectives. For some it represents how much of an advantage China has gained from devaluing its currency more than twenty years ago. For others it represents the challenges experienced by manufacturers as its value has increased over the last decade. For still others its stability is a totem for the increasingly vital role China plays in the global economy. 

The Chinese authorities have made clear they want to make the Renminbi as international as possible. Opening up the financial markets, encouraging competition, insisting on the currency being used as a medium of international trade and other measures are all designed to achieve this goal. As the largest energy importer, the benefit of sourcing supply denominated in one’s domestic currency is obvious but for that goal to be reached the currency will have to be globally fungible which is not the case just yet. 

 



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March 16 2015

Commentary by Eoin Treacy

Email of the day on China muddling through

The following extracts from an article by Professor James Laurenceson, deputy director of the Australia-China Relations Institute at the University of Technology, Sydney should help subscribers have confidence in China investments.

“With China now having the world’s largest economy in terms of purchasing power, we should be cheering them on.

The World Bank says that between 1980 and 2011, the number of people living in poverty in China fell by 753 million. That’s nearly two and a half times the population of the US, and an outcome unparalleled in history.

The World Trade Organization says that China’s share of world’s goods exports has risen from 1.2 percent in 1983 to 12.1 percent in 2013. It’s now the world’s largest trader.

The Boston Consulting Group found that when utilities and other costs are added to sharply rising wages, manufacturing costs in China are now only four percent less than in the US.

To boost productivity, privatisation isn’t crucial; competition is the way that China’s government is currently muddling through reforming the financial sector.

In 2015, yes, China will muddle through. And it will do so again next year.” 

 

Eoin Treacy's view -

Thank you for this interesting article and the topical excerpts: Muddling through can also be described as being willing to both make mistakes and being committed to learning from them. If learning that competition is to be fostered is an abiding success, then the recent crackdown on corruption might also be viewed in that light. 

Some interpret the recent tightening of controls on the media and freedom of speech as well as selective punishment for moral and financial transgressions to be a retrograde step in terms of standards of governance. Others view it as a necessary process to improve the efficiency of the state owned sector not least versus their privately owned competitors. 

 



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March 09 2015

Commentary by Eoin Treacy

China Stocks Rise Most in Week on Banks New Business Prospects

This article from Bloomberg news may be of interest to subscribers. Here is a section: 

“The market seems to be pricing in that the possibility that the regulator would allow banks to enter the brokerage space,” said Gerry Alfonso, a China equity sales and trading director at Shenwan Hongyuan Group Co. in Shanghai.

Banks also gained after the government said it will allow regional authorities to convert some high-yielding debt into municipal bonds.

 

Eoin Treacy's view -

Liberalisation of the financial sector remains a key policy objective of the Chinese administration. Allowing the major banks to participate as brokers and perhaps more importantly as originators and underwriters is an additional step in that direction. The major banks have the heft in terms of their balance sheets to compete aggressively in financial markets. While it would be tempting to first think about the stock market, this development is much more important for the bond markets. Expanding the number of primary dealers not least for the still underdeveloped municipals sector is a major financial sector innovation. 



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March 06 2015

Commentary by Eoin Treacy

Factories Are Building a Robot Nation

This article from Caixin may be of interest to subscribers. Here is a section: 

"At first, robots replaced workers who had jobs that exposed them to pollution, such as painting, or required that they repeat the same task," the equity manager said. "But gradually, robots have been used for trades requiring skilled workers, such as welders, because they are cost-effective."

Yet some companies have automated their factories simply because they cannot find enough people. A mid-level manager at an electronic manufacturer said that many businesses that are unable to fill positions have had no choice but to install robots.

"Workers quit every day," he said. "Physically challenging jobs under harsh conditions or jobs requiring repetitive processes are much less attractive to young workers than the older generation."

Zhang Fan, who oversees automation at a Midea factory in Wuhu, in the eastern province of Anhui, said the plant installed one robot in 2011 and another in 2012 to rapidly move 70 kilogram air conditioners on an assembly line – a job that was too strenuous for people.

 

Eoin Treacy's view -

China can no longer compete with some of its neighbours as a low cost manufacturing environment. Highly labour intensive, thin margin businesses such as textiles and jewellery manufacture have already migrated to countries like Vietnam, Cambodia, Indonesia and increasingly India and Africa. Some of the larger Chinese families will have operations in all of these countries as they manage their exposure to labour costs. 



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