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The writer is chief executive of Gavecal, a Hong Kong-based financial services company
Property prices are falling. Big real estate developers are in serious trouble. A large financial conglomerate has defaulted on interest payments on products sold to investors. For many investors, such recent events in the country seem like a remake of a 2008 film that was enjoyed by some.
The most bleak predictions of the unfolding explosion of the Chinese economy, with years of over-manufacturing, white elephant projects and unproductive infrastructure spending, are finally coming home.
Noting that a systemic crisis in China would spread around the world has raised concerns and calls for Beijing to intervene more strongly to revive the Chinese economy. However, interestingly, such pessimism and gloom are not reflected in the signals the market is giving.
Let me start with the performance of the banks. In most financial crises, the share price performance of banks begins to signal trouble months before a systemic crisis emerges.
For example, the S&P Composite 1500 Bank Index fell 66 percent between January 2007 and July 15, 2008, before the collapse of Lehman Brothers in September of that year. Similarly, European banks fell by 35.4 percent between 1 January 2010 and 1 August 2011, as measured by the MSCI EMU Bank Index – before sovereign bond yields on the periphery of the euro area began to fall, leading to the euro crisis. started.
With that in mind, over the past 12 months, Chinese bank shares (as measured by the FTSE China A-Share Bank Index) have actually risen 2.4 percent (without accounting for dividends). This means that, over that period, Chinese banks have actually outperformed US banks by 12.6 percent in dollar terms. So what can be called an emerging market systemic financial crisis in which local banks are outperforming US banks by double digits year after year? There are really only two possible answers: phenomenal or non-existent.
Here’s something else that’s unprecedented in an emerging market financial crisis: the massive outperformance of Chinese government bonds relative to US Treasuries, considered a traditional haven investment.
Until the Covid-19 lockdown, the returns on Chinese government bonds and US Treasuries were nearly identical over any meaningful time frame. But clearly Covid enforced very different policy choices in both China (long lockdowns) and the US (excessive fiscal stimulus and central bank balance sheet expansion).
As a result, since January 1, 2020, long-term Chinese government bonds (as measured by BAML indices) have given a return of 17.1 percent, while long-term US Treasuries have given a negative 13.4 percent. Bringing us back to our question above: what would an emerging market systemic financial crisis be called in which local government bonds outperform US Treasuries by more than 30 percentage points in less than three years? phenomenal, or non-existent.
Of course, one can elect to dismiss the messages coming from the Chinese equity markets (which have been dismal this year, but still haven’t overcome their October 31, 2022 lows), changes in government bonds or even That foreign currency change is also on hand. Beijing’s signals on prices can easily go awry.
But looking beyond China, we still have high commodity prices. For example, iron ore, possibly the most China-sensitive of all commodities, is up 50 percent from its October 31, 2022 low and has actually been rising over the past few weeks, even as the Chinese economy But the negativity has increased.
The past year has also seen a particularly strong performance in the share prices of China-sensitive Western companies such as LVMH, Hermès, Ferrari and others. In fact, most luxury goods producers are trading at or near all-time highs. The reverse would appear if China were indeed experiencing a systemic recession.
The pervasive negativity also ignores some important bright points in the Chinese economy. For example, Macau tourist arrivals have recently returned to normal levels, and this is despite severe staff shortages in all major casinos. Domestic tourism is growing broadly. Car sales in China are still up this year, despite slight declines in June and July. Alibaba reported a return to strong sales growth in its second quarter results. There are other signs of an economy that is not collapsing.
There is no denying that China’s economy is facing real challenges, or that Chinese economic growth is slowing cyclically and structurally. But in short, there appears to be a strong disconnect between the price behavior of most China-related assets, whether at home or abroad, and fears of a looming systemic crisis.