Showing posts with label China. Show all posts
Showing posts with label China. Show all posts

Wednesday, September 14, 2011

BRICs Mulls Bailout of the Eurozone

From the Reuters,

BRIC major emerging markets are considering ramping up holdings of euro-denominated bonds in a bid to help European countries mired in a sovereign debt crisis, newspaper Valor Economico reported on Tuesday, citing a monetary official.

Valor reported a decision could be made at a Sept. 22 meeting of finance ministers and central bank presidents from Brazil, Russia, India, China and South Africa in Washington.

Brazil's central bank declined to comment on the story.

This comes on the heels of China’s proposed investment on Italy, yesterday.

From Bloomberg/Businessweek, (bold emphasis mine)

China’s status as the fastest- growing major economy and holder of the largest foreign-exchange reserves lured another bailout candidate as Italy struggles to avoid a collapse in investor confidence.

Italian officials held talks in the past few weeks with Chinese counterparts about potential investments in the country, an Italian government official said yesterday, adding that bonds weren’t the focus. Finance Minister Giulio Tremonti met with Chinese officials in Rome earlier this month, his spokesman Filippo Pepe said by phone today, declining to say exactly when the talks took place or what was discussed.

Foreign Ministry spokeswoman Jiang Yu, asked about buying Italian assets, said Europe is one of China’s main investment destinations, without specifically mentioning Italy.

Italy joins Spain, Greece, Portugal and investment bank Morgan Stanley among distressed borrowers that turned to China since the 2007 collapse in U.S. mortgage securities set off a crisis that widened to engulf euro-region sovereign debtors. Stocks rose on the potential Chinese investment in Italy even as previous commitments failed to have a lasting impact…

Any Chinese purchases of euro-region debt to date haven’t produced a lasting cut in yield premiums for Greece, Portugal or Spain…

Any Chinese purchases of euro-denominated debt may help it diversify its reserves away from dollars. The biggest foreign owner of U.S. government debt has doubled its holdings of Treasuries in the three years through June to about $1.17 trillion.

China is playing a “white knight” role in assisting Europe and buying itself goodwill that will enable it to purchase more sensitive European assets such as technology companies, according to Stamford, Connecticut-based Faros Trading in a June report. The European Union still has an arms embargo on China, imposed after the Tiananmen Square massacre in 1989.

My comments:

1. The above exhibits the bailout mentality prevalent among policymakers. It’s easy to spend money or resources that aren’t theirs, since the costs of the ensuing political actions are distributed or externalized or borne by taxpayers. Policymakers are essentially unaccountable for their actions.

2. This also demonstrates the implicit desire of global governments to preserve the status quo, again at the expense of local taxpayers.

3. The transfer of resources from productive to non productive entities will have temporary palliative effects. Over the long term, this weakens the productive capability of productive enterprises, as well as, heightens the risk environment of the global economic and financial system. Besides, such transfers distort price signals and resource distribution in the marketplace which only increases systemic fragility.

And since we are dealing with non-productive entities, i.e. governments, for BRIC political leaders, the above represents a choice between domestic or international ‘political’ expenditures.

Again go back to #1.

4. BRIC governments will be a part of the consortium that will rescue elite bankers of the Eurozone and the US. This only reveals how widespread the welfare government-banking-central banking cartel is.

5. For China, part of the incentive to conduct a bail out is to project her growing geopolitical influence; yet a very expensive way to signal success.

China will also use this opportunity to squeeze political deals with economic repercussions. Like any political concession, these would likely benefit the client cronies and the political patrons of the incumbent Chinese government.

6. Diversification of currency reserves out of the US dollars has been attributed as one of the motives for the rescue. But why the Euro, whom like the US suffers from the almost the same disease?

Notice that the current developments signifies as a continuing crisis since 2008. Despite repeated trillions of US dollars or Euro spent on a seemingly expanding breadth of bailouts, there are hardly any convincing signs that this crisis will be over anytime soon. Much of the present political actions have been meant to 'kick the can down the road', which means the likelihood of even larger crisis ahead.

None of the above shows that the BRIC's rescue will matter. Again the thumbprints gleaned from the above would likely be more inflationism.

Thursday, June 09, 2011

China Warns US on Debt Default as ‘Playing with Fire’

Here is another spectacle, China warns the US of ‘playing with fire’ by tinkering with the prospects of default.

From yahoo.com

Republican lawmakers are "playing with fire" by contemplating even a brief debt default as a means to force deeper government spending cuts, an adviser to China's central bank said on Wednesday.

The idea of a technical default -- essentially delaying interest payments for a few days -- has gained backing from a growing number of mainstream Republicans who see it as a price worth paying if it forces the White House to slash spending, Reuters reported on Tuesday.

But any form of default could destabilize the global economy and sour already tense relations with big U.S. creditors such as China, government officials and investors warn.

Li Daokui, an adviser to the People's Bank of China, said a default could undermine the U.S. dollar, and Beijing needed to dissuade Washington from pursuing this course of action.

"I think there is a risk that the U.S. debt default may happen," Li told reporters on the sidelines of a forum in Beijing. "The result will be very serious and I really hope that they would stop playing with fire."

China is the largest foreign creditor to the United States, holding more than $1 trillion in Treasury debt as of March, U.S. data shows, so its concerns carry considerable weight in Washington.

"I really worry about the risks of a U.S. debt default, which I think may lead to a decline in the dollar's value," Li said.

This just shows how governments have been addicted towards profligacy and inflationism as recourse to economic predicaments.

By advocating an increase of US debts, the US will genuinely be “playing with fire”.

Eventually this spending-deficit cycle will reach a point where the US economy won’t be able to pay her liabilities and will prompt her to an outright default or pursue hyperinflationary policies. So China is effectively asking the US to kick the can down the road.

However, these warnings do not just come from China, but also from the Fed’s James Bullard and one of the key credit rating agency, the Fitch Ratings

From the Reuters (hat tip Dr Antony Mueller)

A default would have severe reverberations in global markets, a top Federal Reserve official said just hours after Fitch Ratings warned it could slash credit ratings if the government misses bond payments.

St. Louis Federal Reserve Bank President James Bullard told Reuters on Wednesday "the U.S. fiscal situation, if not handled correctly, could turn into a global macro shock."

"The idea that the U.S. could threaten to default is a dangerous one," he said in an interview.

"The reverberations in those global markets would be very severe. That's where the real risk comes in," Bullard warned.

So the political pressure to raise debt limits has apparently been escalating.

Once the US Congress approves such actions, which I think they will, this gives the Fed another rational for QE 3.0: insurance against the risk of a bond auction failure as previously discussed here.

But while China warns of a default, the fact is that the US has already been partially defaulting on her debt via inflationism (QE 1.0 and 2.0)

Repeating what Murray Rothbard wrote,

Inflation, then, is an underhanded and terribly destructive way of indirectly repudiating the "public debt"; destructive because it ruins the currency unit, which individuals and businesses depend upon for calculating all their economic decisions.

So China prefers indirect default by inflation than an outright default.

Finally another paradox is that this warning of China comes amidst what appears to be her declining interest to finance the US.

True China owns lots of US debts (following charts from zero hedge)

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But China has been buying less during the past months

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Bottom line: Global policymakers appear to be averse at imposing fiscal discipline and would choose the inflationism route instead.

These actions manifest what I call path dependency or the bailout mentality via inflationism. Until the next crisis implodes such dogmatist approach simply won’t change.

Tuesday, January 25, 2011

China To Build The World’s Largest Megacity

Drunk with the recent success of combining capitalism with her “communist” political structure, the Chinese government has embarked on a grand scale of central planning—China plans to build the largest megacity in the world!

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This from the Telegraph,

China is planning to create the world's biggest mega city by merging nine cities to create a metropolis twice the size of Wales with a population of 42 million.

City planners in south China have laid out an ambitious plan to merge together the nine cities that lie around the Pearl River Delta.

The "Turn The Pearl River Delta Into One" scheme will create a 16,000 sq mile urban area that is 26 times larger geographically than Greater London, or twice the size of Wales.

The new mega-city will cover a large part of China's manufacturing heartland, stretching from Guangzhou to Shenzhen and including Foshan, Dongguan, Zhongshan, Zhuhai, Jiangmen, Huizhou and Zhaoqing. Together, they account for nearly a tenth of the Chinese economy.

Over the next six years, around 150 major infrastructure projects will mesh the transport, energy, water and telecommunications networks of the nine cities together, at a cost of some 2 trillion yuan (£190 billion). An express rail line will also connect the hub with nearby Hong Kong.

China’s government seems increasingly manifesting signs of overconfidence, a harbinger of bubble bust.

As previously explained in China’s Bubble and the Austrian Business Cycle, imploding bubbles are frequently highlighted or foreordained by “grand” braggadocio (mostly real estate) projects, but instead of the private sector, this time the symptom could emerge from the government.

In addition, while many experts have been obsessed with the supposed certainty of the “deepening” of urbanization trends, I am not one of them. That’s because I see technology as a pivotal offsetting force that leads not to concentration but to decentralization. And technology induced decentralization should apply to most social activities which includes politics, economics, demographics and others.

This is one aspect, which I think, central planners in China or elsewhere seems to have overlooked. Of course, substituting their “expert” knowledge over people’s preferences is another major factor, as exhibited by some of China’s existing ghost cities

Saturday, July 10, 2010

What Agricultural Bank of China’s IPO Should Imply For Asian Financial Markets

The world’s largest IPO will reportedly be launched in China next week.

According to the Economist,

``THE initial public offering of Agricultural Bank of China, the country's third-largest bank, looks set to become the biggest IPO on record. On July 6th and 7th the bank raised a reported $19.2 billion in a dual listing on the Shanghai and Hong Kong stock exchanges. If the bank takes up a further 15% allotment of shares, that would value the deal at a total of $22 billion, slightly more than the offering in another Chinese bank, ICBC, in 2006. In the 1990s telecommunications was the investors' choice but in the last decade the biggest IPOs have been mostly in the financial sector, and mainly of Chinese banks”

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Hong Kong, whom dominated world IPOs in 2009, will be eclipsed by China’s state-owned Agbank’s IPO.

According to USA Today,

``In 2009, Hong Kong was the world's largest IPO market, with companies raising a combined $32 billion in capital, according to Dealogic, a data-tracking firm. This year, China is on track to assume the mantle, with $31.7 billion raised by early July.

``The reason for these markets' strong performance amid a tepid global environment: "Investors are looking to put their funds in high-growth regions, and the financial tsunami" has affected growth in Europe and the U.S., says Edward Au, southern China regional leader in Deloitte's National Public Offering Group. (Deloitte is an auditor for AgBank's IPO.)

``AgBank's dual listing in Shanghai and Hong Kong could raise as much as $22.1 billion if an option is exercised to boost the number of shares for sale. This would break a $21.9 billion world record set in 2006 by Industrial & Commercial Bank of China.

``Monday, AgBank will also begin offering an undisclosed number of shares to Japanese investors, says Kenji Yamashita, a spokesman for Nomura, one of AgBank's lead offering coordinators in Japan.”

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None the less, the changes in the global IPO market dynamic, as shown above from Renaissance capital, suggests that most of the capital raising activities have now been directed towards Asia.

In other words, Asia has seized the leadership and that global capital may accelerate inflows to Asia, despite doom and gloom predictions from mainstream experts.

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The Agbank offering comes amidst the tinges of the unresolved transition from China’s bear market cycle.

The bear market seen in the China’s Shanghai index [upper window] (Bloomberg), emerged in the backdrop of an economic growth slowdown amidst the global financial crisis. China’s official growth figures fell by half 13% to 6.2% [lower window] but conspicuously escaped a recession (tradingeconomics.com).

Yet as I have been propounding; why should the Shanghai Index collapse by 71%, even more than the US markets, when she has eluded recession unlike the US?

From here we have explained that ‘fundamentals’, which has been the deeply entrenched mainstream wisdom, do not sufficiently ‘rationalize’ market activities, as the latter have been more influenced by liquidity flows (or my Machlup-Livermore paradigm).

Yet, from such premises, despite the heavy demand for Agbank share, the success of Agbank’s IPO listing isn’t clear, considering that China has been tightening in order to prevent an overheating or a bubble from running berserk.

Yes, the Shanghai index has bounced off strongly up (3.69%) from the dive (6.66%) during the previous week and could be work favorably to Agbank’s advantage.

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Asian IPO’s have generally been well received this year (Reuters) and most likely the Agbank’s one day performance could also register a positive return.

But measuring IPOs for one day performance would appear equivalent to betting on a horse race-an inappropriate approach for serious or prudent investors.

Nevertheless IPO activities are one of the major indicators for bear markets.

And this has been accurately pointed out in July of 2007, see The Prudent Way To Profit From IPOs!, where in terms of Philippine based IPOS (upper window) surged.

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And this appears to be same trend for global markets, as seen in the lower window (renaissance capital) as the boom climaxed.

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Even as Asia today has commanded the biggest share of IPO activities (renaissance capital) it doesn’t automatically imply that Asian markets are in “bubble proportions”.

IPO activities in 2009 haven’t even surpassed the previous highs. And even if Asian IPOs do exceed the 2006 highs, other indicators will need to be scrutinized to ascertain the risk of bubbles.

All these suggest of the following:

-a deepening and growing sophistication of financial markets (of course, it could also mean a bubble)

-reduction of the excessive reliance of financial intermediation away from the banking system

-competition should bring about pricing efficiency, expanded accessibility and lower transaction costs which should enhance structural economic growth

-more emergent signs of decoupling

-relative higher equity returns are likely to put Asia on top of the heap and attract more capital flows

-as capital would likely to chase higher relative returns, IPOs activities in Asia are would likely to experience a feedback loop mechanism—high returns lead to more IPOs and vice versa--at the risks of fostering bubble conditions.

IPO activities represent as one critical indicator of capital market development and bubble activities.

Sunday, February 28, 2010

Inflation’s Sweet Spot Augur For A Gold Breakout And Global Equity Market Rally

``When the government and the banking system begin inflating, the public will usually aid them unwittingly in this task. The public, not cognizant of the true nature of the process, believes that the rise in prices is transient and that prices will soon re­turn to “normal.” As we have noted above, people will there­fore hoard more money, i.e., keep a greater proportion of their income in the form of cash balances. The social demand for money, in short, increases. As a result, prices tend to increase less than proportionately to the increase in the quantity of money. The government obtains more real resources from the public than it had expected, since the public’s demand for these resources has declined. Eventually, the public begins to realize what is taking place. It seems that the government is attempting to use inflation as a permanent form of taxation. But the public has a weapon to combat this depredation. Once people realize that the govern­ment will continue to inflate, and therefore that prices will con­tinue to rise, they will step up their purchases of goods. For they will realize that they are gaining by buying now, instead of wait­ing until a future date when the value of the monetary unit will be lower and prices higher. In other words, the social demand for money falls, and prices now begin to rise more rapidly than the increase in the supply of money."-Murray N. Rothbard,The Economics of Violent Intervention in the Market

Speaking of benign inflation, the “sweet spot” of the inflation is the seductive phase where the financial and economic ambiance is characterized by an episode of rising asset prices which reinforces the perception of the strengthening of the economy’s recovery and vice versa.

This actually plays out in the manner introduced by market savant George Soros as the reflexivity theory- a self-reinforcing feedback loop mechanism where people interpret prices as signifying real events, and where real events reinforce these price signals.

In short, from our perspective, the sweet spot of inflation represents as a boom scenario for markets resulting from easy money policies.

However, since the interplay of perceptions which have been enhanced by price signals and statistical information on the real economy has been manipulated by the official policies, most people don’t recognize that price signals are manifestations of the deepening scale of malinvestments into the system. And as the boom phase draws in more of the crowd, the trend becomes entrenched until they become unsustainable...but we seem to be getting way too far.

A Global Rally Ahead?

Last week we said that equities are likely to be a “buy” once gold breaks above the 1,120-1,125 area[1]. And perhaps the sweetspot of inflation will become more conducive once it is supported by the concomitant rise of US and Chinese markets.

The reason we opted to use gold as a major key indicator for markets is because gold has not only decoupled from the US dollar and is likely to seek its own path overtime, but importantly gold has served as a significant lead indicator for equity and commodity prices. This is because Gold apparently reflects on the state of the global liquidity.

For now, even as gold hasn’t broken above the important threshold, the ancillary conditions appear to be suggestive of an upcoming breach (see figure 4)


Figure 4: stockcharts.com: Sweet spot of Inflation?

US equities as signified by the S & P 500 (SPX), while down for the week, has brushed off the recent accounts of the volatility from the ‘Greek tragedy’ and appears to be in an uptrend.

We also see China’s Shanghai index (SSEC) as striving to move higher (see middle minor window). China’s major bellwether have been in consolidation over the past two months, after being hammered repeatedly by the formal and informal arm twisting by her government in an attempt to squeeze bubbles out of her system late last year.

Next we have the JP Morgan Emerging Markets Debt fund (JEMDX) or a bond fund which is invested in sundry emerging market sovereign debt, as sharply moving higher. These could be signs that foreign money flows could be gathering steam into Emerging Markets anew.

Combined, these market signals could presage a vigorous resurgence of global equities out of “loose monetary conditions” and the reflexivity theory ahead.

And this is likely to also be reflected in gold’s next moves.

Gold’s ‘Fundamental Change In Sentiment’

Another reason why gold should be a good benchmark is that the varying interests of global central banks appear to have created a “neutral” zone for gold.

By neutral zone, we mean that gold is likely to reflect on market forces with reduced odds of manipulation. Many emerging market governments have been increasingly playing the role of “buyer” while former sellers seem to be downscaling sales activities.

Asian Investors quotes the World Gold Council on this noteworthy shift, ``After net-selling an average of 444 tonnes of gold in the five years to 2008, central banks only offloaded a net 44 tonnes last year. In fact, after 62 tonnes of net selling in the first quarter of 2009, central banks posted three quarters of net buying. This shift may signal a "fundamental change in sentiment", says the London-based World Gold Council (WGC).” (bold highlight mine)

In other words, the “fundamental change in sentiment” has transformed central bank officials’ view of gold from a “barbaric metal” to insurance, as previously discussed.[2]

I’d like to further add that gold prices have recently been weighed by the IMF’s proposed sale of the remaining 191.3 tons to the market.

While after a week of announcement, no nation has officially taken up the IMF’s offer, there are reports that India may suit up for IMF’s last batch of gold sales. This should stir up the gold market anew.

Many have expected China to take the counterpart of the IMF’s offer. But this may not happen. China’s gold procurement has been marked by inconspicuous domestic acquisitions since. As example, in April of last year, China surprised the market with the declaration that it had raised its gold reserves by “33.89 million ounces by the end of April” of 2009 since December 2002.

And since China is now the world’s largest gold producer, she isn’t likely to be pressured on overtly buying into IMF’s gold.

Albeit, we are quite sure that China’s interest in the precious metal remains unabated. Her huge sovereign wealth fund, China Investment Corporation (CID) had reportedly acquired an equivalent of 4.5 tonnes of SPDR Gold Trust ETF just recently, making the fund the largest holder, alongside with investing legends as John Paulson and George Soros.

Finally, should gold opt to somewhat mimic on the Euro’s moves anew, the prospects of a sharp rebound in a severely oversold Euro could also give the metallic money a boost (see figure 5)

Figure 5: Mineweb: Extremely Overbought US dollar and Severely Oversold Euro

Here we quote Mineweb’s Rhona O'Connell: (bold emphasis mine)

``The instrument shown here is the US Dollar Index position reported by the "I.C.E.", or IntercontinentalExchange, which turns over very heavy dollar trading, although the net speculative positions are comparatively low when compared with those in the euro on the CME or gold on COMEX. Nonetheless they reflect sentiment. The reported positions relate to contracts of $1,000 each, meaning that the largest recent net dollar short position, at 12,521 contracts, was equivalent to $12.5 million. The swing since then has been equivalent to $53.4 million to the long side and the latest position, a net long of $40.9 million, is almost 150 times the average since 2004.

``Meanwhile the net euro position on the CME is even more extreme. Taken over the same period, the net speculative euro position on the Chicago Mercantile Exchange has averaged a long of $4.8 billion euros. In mid-February the position was a net short of 8 billion euros; the outright long is at 71% of the average for the period, but the short is twice its average.”

So the forces which heightens the odds for an upside breakout for gold prices looks firming up, and we should gold’s breakout to likely be accompanied by auspicious sentiment for the asset markets.

Positive Foreign Trade For The Philippine Stock Exchange

I’d like to conclude with a chart of the foreign flows into the Philippine Stock Exchange (PSE) (see figure 6)


Figure 6: PSE: Net Foreign Trades

Despite the marked selling in early February, we are generally seeing net foreign inflows into the PSE on a year to date basis.

This squares with our earlier observation that despite the diminishing share of foreign trade in the markets (about 37.7%), foreign trade has accounted for a net inflow to the tune of 5.2 billion pesos (about $110 million) for 2010.

Inflationism in developed economies is likely to spur more foreign fund inflows, which should support the domestic asset markets, particularly, the equity market, the real estate sector, corporate and sovereign bonds and the Philippine Peso.



[1] See Asia’s Policy Arbitrage, Phisix And The Bubble Cycle

[2] See Is Gold In A Bubble?


Saturday, November 28, 2009

Global Art Market As Bubble Meter, China's Fast Expanding Role

Even in the global art markets, the Chinese growth juggernaut appears to be shifting the playing field in her favor.

This from the Economist (bold highlight mine),

"LAST year China overtook France as the world’s third-biggest art market after America and Britain. Thanks to shifts in policy, which once banned owning, inheriting or exchanging pre-communist works, Chinese buyers are now catching up in a big way. More Chinese treasures are now sold at auction in Hong Kong than in New York, London and Paris. At Sotheby's in Hong Kong last month a world record for a piece of Chinese furniture was set when a Qianlong-period throne made of precious zitan wood and carved with dragons fetched just under HK$86m ($11.1m)."

In short, the liberalization of the marketplace and global wealth transfer dynamics have been key forces driving China's race to the top. That's the good news.

But here's the bad news.

This growth market may also reflect on bubble policies.

Since art is a luxury item, a booming art market could be indicative of inflation fueled consumption excesses.

As with Japan's experience in the late 80s, whose buyers "swept the Western art markets", according to wikipedia.org, China's prospective assumption of the dominant role could likewise be ominous of a bubble top.

This hasn't been limited to Japan, in the list of the most expensive paintings ever sold (artwolf.com), here are the top 5:

1. JACKSON POLLOCK: "Number 5, 1948", 1948

$140 million

Private sale, 2006. Seller: David Geffen. Buyer: David Martínez (claimed)

2. WILLEM DE KOONING: "Woman III", 1952-53

$137.5 million

Private sale, 2006. Seller: David Geffen. Buyer: Steven Cohen

3. GUSTAV KLIMT: "Adele Bloch-bauer I", 1907

$135 million

Private sale, 2006. Buyer: Ronald Lauder.

4. PABLO PICASSO: "Garçon a la pipe", 1904

$104.1 million

Sotheby's New York , May 2004. Buyer: anonymous

5. PABLO PICASSO: "Dora Maar au chat", 1941

$95.2 million

Sotheby's New York , May 2006. Buyer: anonymous

It could be observed that four out of the five most expensive paintings were transacted in 2006.

These had incidentally been at the pinnacle of the US housing bubble as shown in the Case Shiller chart above!

Bottom line: The art markets could, most likely, serve as one important bellwether to estimate on the whereabouts of a bubble cycle.

Friday, October 09, 2009

China 60th Year: Before and Today

On its 60th founding anniversary, Redden of Fast Company provides us with a great graphic illustration of China in 1949 (under Mao Zedong) and the vastly different China today.

Great stuff!






Wednesday, September 02, 2009

China Flexing Muscles Over Rare Earth Minerals For Strategic Reasons

China is tightening up on its near stranglehold over rare earth mineral exports in order to secure strategic advantages.


According to the New York Times, (all bold highlights mine)

``China currently accounts for 93 percent of production of so-called rare earth elements — and more than 99 percent of the output for two of these elements, dysprosium and terbium, vital for a wide range of green energy technologies and military applications like missiles.

``Deng Xiaopeng once observed that the Mideast had oil, but China had rare earth elements. As the Organization of the Petroleum Exporting Countries has done with oil, China is now starting to flex its muscle.

``Even tighter limits on production and exports, part of a plan from the Ministry of Industry and Information Technology, would ensure China has the supply for its own technological and economic needs, and force more manufacturers to make their wares here in order to have access to the minerals.

``In each of the last three years, China has reduced the amount of rare earths that can be exported. This year’s export quotas are on track to be the smallest yet. But what is really starting to alarm Western governments and multinationals alike is the possibility that exports will be further restricted."

``Beijing officials are forcing global manufacturers to move factories to China by limiting the availability of rare earths outside China. “Rare earth usage in China will be increasingly greater than exports,” said Zhang Peichen, the deputy director of the government-linked Baotou Rare Earth Research Institute..."

``China produces over 99 percent of dysprosium and terbium and 95 percent of neodymium. These are vital to many green energy technologies, including high-strength, lightweight magnets used in wind turbines, as well as military applications...

``The Ministry of Industry and Information Technology has cut the country’s target output from rare earth mines by 8.1 percent this year and is forcing mergers of mining companies in a bid to improve technical standards, according to the government-controlled China Mining Association, a government-led trade group.

``General Motors and the United States Air Force played leading roles in the development of rare-earth magnets. The magnets are still used in the electric motors that control the guidance vanes on the sides of missiles, said Jack Lifton, a chemist who helped develop some of the early magnets.

``But demand is surging now because of wind turbines and hybrid vehicles....

Additional commentary from Telegraph's Ambrose Evans Pritchard, (emphasis added)

``New technologies have since increased the value and strategic importance of these metals, but it will take years for fresh supply to come on stream from deposits in Australia, North America, and South Africa. The rare earth family are hard to find, and harder to extract...

``No replacement has been found for neodymium that enhances the power of magnets at high heat and is crucial for hard-disk drives, wind turbines, and the electric motors of hybrid cars. Each Toyota Prius uses 25 pounds of rare earth elements. Cerium and lanthanum are used in catalytic converters for diesel engines. Europium is used in lasers.

``Blackberries, iPods, mobile phones, plams TVs, navigation systems, and air defence missiles all use a sprinkling of rare earth metals. They are used to filter viruses and bacteria from water, and cleaning up Sarin gas and VX nerve agents.

``Arafura, Mountain Pass, and Lynas Corp in Australia, will be able to produce some 50,000 tonnes of rare earth metals by the mid-decade but that is not enough to meet surging world demand.

``New uses are emerging all the time, and some promise quantum leaps in efficiency. The Tokyo Institute of Technology has made a breakthrough in superconductivity using rare earth metals that lower the friction on power lines and could slash electricity leakage."

``The Japanese government has drawn up a “Strategy for Ensuring Stable Supplies of Rare Metals”. It calls for `stockpiling’ and plans for “securing overseas resources’. The West has yet to stir."

My comments:

1. Forcing high tech companies dependent on rare earth resources to invest in China could be a ploy to "pad" statistical economic growth in today's highly turbulent times.

2. Another reason could be to use such resources to extract technology or knowledge transfer concessions.

This applies most especially to "green" technology and importantly for security (military) reasons.


Since the US Air Force has been instrumental to the development of rare earth for its use, then it would be forced to negotiate or compromise for continued access to these.

3. Prices of rare earth metals would surge as supply is constrained as demand increases.

4. Investments in scouring for alternative sources for such exotic metals will likewise explode.

5. Technological advances could materially slow, especially for those companies unwilling to shift to China, on high prices as access to these rare metals will be severely limited.

6. Another sign of creeping protectionism which could provoke heightened geopolitical tensions.


Sunday, August 23, 2009

Gold As Our Seasonal Barometer

``If our present inflation, as seems likely, continues and accelerates, and if the future purchasing power of the paper dollar becomes less and less predictable, it also seems probable that gold will be more and more widely used as a medium of exchange. If this happens, there will then arise a dual system of prices — prices expressed in paper dollars and prices expressed in a weight of gold. And the latter may finally supplant the former. This will be all the more likely if private individuals or banks are legally allowed to mint gold coins and to issue gold certificates.” Henry Hazlitt (1894–1993) Gold versus Fractional Reserves

I wouldn’t be in denial that seasonal factors could weigh on asset pricing as we mentioned last week.

This Ain’t 2008

But many analysts seem to have taken a rear view mirror (anchoring) of the seasonal factors on the possible performances of the global stock markets.

Given the fresh traumatic experience from the 2008 meltdown, it is understandable that many have written words of caution about navigating the turbulent periods of September and October.

But unless we are going to see another seizure in the banking system, the 2008 episode seems unlikely to be the appropriate model.

True, we could see some heightened volatility, as a result of the variable fluxes in inflation (as in the recent case of China).

But for us, the focus should be on how the US dollar index would be responding to the stickiness of inflation on the financial markets in the current environment, instead of one dimensionally looking at the stock markets vis-à-vis the seasonal forces.

In my view, gold’s strong performance during this period could be a fitting a precursor see figure 3.

Figure 3: Uncommon Wisdom/Sean Brodrick: Entering Gold’s Seasonal Strengths

If gold functions its traditional role as the archrival or nemesis to paper money, then simplistically a weaker dollar should translate to higher gold prices.

In Four Reasons Why ‘Fear’ In Gold Prices Is A Fallacy we pointed out that one of the major reasons why the mainstream has been wrong in attributing “fear” in gold prices was because of the massive distortions by governments in almost every market.

Hence, gold or the oil markets, which represents as the major benchmarks to commodity indices, hasn’t been on free markets to reflect on pricing efficiency enough to attribute fear.

Instead, over the short term, government interventions working through different channels such as the signaling, an example would be the previous announcements of IMF gold sales [which eventually got discounted], or other forms of direct or indirect manipulation, has been used as a stick to control gold prices.

This, plus the seasonal weakness has indeed brought gold prices to a tight trading range, instead of collapse as predicted by the mainstream, thereby validating our thesis and utterly disproving the “fear” thesis.

Nevertheless, governments appear to have retreated from selling their reserves under the Central Bank Gold agreement which expires on September. Central Bank’s selling during the first 6 months of the year are down 73% at 39 tonnes (commodityonline). Although as the calendar year closes, central bank selling could step up, but this would likely be met by the seasonal strength and won’

Investment Taking Over Traditional Demand

Also, as we also pointed out in February’s Do Governments View Rising Gold Prices As An Ally Against Deflation?, the dynamics of gold pricing has rightly been changing.

Then we said, ``The implication of which is a shift in the public’s outlook of gold as merely a “commodity” (jewelry, and industrial usage) towards gold’s restitution as “store of value” function or as “money”. The greater the investment demand, the stronger the bullmarket for gold.” (see Figure 4)

Figure 4: World Gold Council: Investment Leads Gold Demand

It would seem like another vindication for us, this from the Financial Times, (bold emphasis ours)

``Total identifiable gold demand, at 719.5 tonnes in the second quarter, was down 8.6 per cent compared with same period in 2008, with jewellery consumption down 22 per cent to 404.1 tonnes.

``Investment demand, which includes buying of bars and coins as well as inflows into exchange-traded funds, reached 222.4 tonnes in the second quarter, a rise of 46.4 per cent from the same period a year ago.

``However, the second quarter was the weakest three-month period for investment demand since before the implosion of Lehman Brothers in September 2008…

``Mr Shishmanian [Aram Shishmanian, chief executive of the World Gold Council-my comment] said that although total demand had failed to match the exceptional levels seen when the economic and financial crisis was at its peak, investment demand had enjoyed a strong quarter, underlining a growing recognition of gold as an important and independent asset class.”

In short, yes, investment demand has materially been taking over the dominant role in gold demand over jewelry and industry and will continue to do so as global central banks inflate the system.

China’s Role And The Reservation Price Model

Moreover, China’s government recently loosened up on its investment rules for gold and silver and even encourages the public to participate [see China Opens Silver Bullion For Investment To Public].

On a gold [in ounces] per capita basis, China has only .028 ounces of gold for every citizen, against the US which has .9436 ounces of gold in its reserves for every Americans (Gold World). That’s alot of gold for the Chinese with its huge savings and humongous foreign currency reserves to buy. And that’s equally alot of room for gold prices to move up.

This means that if the inflation process will continue to be reflected on the financial asset prices, then the likelihood is that gold will pick up much steam going to the yearend on deepening investment demand from global investors, perhaps more from Asia and augmented by the seasonal strength.

Moreover, gold will likely serve as a better barometer for the liquidity driven stock markets, in spite intermittent volatility, than from traditional seasonal forces.

Finally, Mises Institute’s Robert Blumen gives a good account of why evaluating the price dynamics of gold shouldn’t be from the conventional consumption model but from reservation prices model.

Since gold prices are not consumed by destruction and where above ground supply remains after being processed or used, the ``owners of the existing stocks own much more of the commodity than the producers bring to market.”

Hence to quote Mr. Blumen, ``The offered price of each ounce is distinct from that of each other ounce, because each gold owner has a minimum selling price, or "reservation price," for each one of their ounces. The demand for gold comes from holders of fiat money who demand gold by offering some quantity of money for it. In the same way that every ounce of gold is for sale at some price, every dollar would be sold if a sufficient volume of goods were offered in exchange.”

Read the rest here.


Friday, August 21, 2009

Sunday, August 16, 2009

Sectoral Performance In US, China And The Philippines

``[Asia is] a very different dynamic compared with the rest of the world. Most banking systems in Asia are flush with liquidity as they have a surplus of deposits over lending. So if [corporates] have in the past financed in the international bond markets, when it comes to refinancing they can turn to the local market alternatives because plenty of banks are still willing to lend”- Jason Rogers, a credit analyst at Barclays Capital Asia-Pacific corporate bonds surge

In bubble cycles, the object of a speculative bubble, after a bust, normally takes years to recover.

To cite a few, the Philippine Phisix following the 1997 Asian Crisis episode hasn’t fully recovered even 12 years after, Japan’s Nikkei 225 and its property sector remains in doldrums following the bust in 1990 (that’s 19 years!), and the technology centered dot,com bust during the new millennium in the US has left the Nasdaq miles away from its peak, 9 years ago.

The recent bubble cycle phenomenon evolved around the US real estate sector which had been funded by the financial industry. In short, these two sectors-financials and real estate accounted for as the epicenter of the bubble cycle crisis. So given the nature of bubble cycles, I originally expected the same dynamics to unfold.

The fundamental reason for this is due to the market clearing process or the process of liquidating clusters of malinvestments acquired during the bubble.

And since bubble blowing or the “boom” phase is a process underpinned by policies that is cultured by the markets over time, the liquidation or the “bust” phase likewise employs the same time consuming process but in reverse.

But I guess this dynamic doesn’t seem to be the case today or put differently, this time looks different.

Why?

Because US money managers have largely been overweighting the financial sector, see Figure 5.


Figure 5: Bespoke Invest: Institutional Sector Weightings

According to Bespoke Invest, ``money managers collectively have 18.5% of their long portfolios in the Financial sector, which is the highest weighting for any sector. Technology ranks second at 16.8%, followed by Health Care (12.9%), Energy (12%), and Industrials (10.3%).

``The second chart compares these weightings with the sector weightings of the S&P 500. As shown, institutions are overweight the Financial sector the most and underweight Consumer Staples the most.”

Obviously, the enormous backstop provided for by the US government to the US financial sector has circumvented the natural process of liquidations from fully occurring.

Hence, the intriguing outperformance led by the money managers piling into a sector under the government “umbrella” to seek profits or “economic rent”.

Yet, despite such outperformance, government intrusion to the industry will likely result to more systemic distortions.

To quote Professor Mario Rizzo in a recent paper ``These are agents whose discretionary behavior, insulated from the normal discipline of profit and loss, can significantly affect the course of economic effects. Thus, discretionary behavior on the part of monetary authorities (the Fed), fiscal policy makers (Congress or the Executive), or even in some cases private monopolists, can increase uncertainty faced by most economic agents (“small players”). They will have to pay more attention to trying to guess the perhaps idiosyncratic behavior of the big players. Economic variables will become contaminated with big-player influence. It will become more difficult to extract knowledge of fundamentals from actual market prices.”

Again, pricing signals are becoming less efficient due to government intervention (more difficult to extract knowledge of fundamentals from actual market prices) and is likely to heighten systemic risks (can increase uncertainty faced by most economic agents) arising from the asymmetric behavior of the industry participants shaped by regulators (insulated from the normal discipline of profit and loss).

In combination with the toxic assets stacked in the bank balance sheets, I would remain a skeptic over US financials.

Interesting Parallels In China And The US, Possible Opportunities

It is interesting to see how some parallels can be gleaned from the institutional interest in US stocks and in China’s recent sectoral performance.

While Financials, Materials, Consumer Cyclicals, Energy and Industrial outperformed the S & P 500, in China, Energy, Materials, Financials, Technology and Industrials constituted the top 5 during the latest run on a year to date basis, see figure 6.


Figure 6: Bespoke Invest: China’s Sectoral Performance

In other words, except for Consumer Cyclicals in the US and Technology sector in China, there seems to be some common interests from respective domestic investors-energy, materials, financials and industrials.

In the Philippines, the top 3 sectors have been Mining and Oil, Industrial (energy) and holding companies, whereas financials and services (telecoms) have been laggards.

Except for the financials, basically we see the same pattern playing out.

More interesting insights from Bespoke Invest, ``Sector performance in China paints an interesting picture. In typical selloffs, sectors that lead the rally see the steepest declines, while laggards in the rally tend to outperform. In this selloff, however, this trend is much less evident. The chart below shows the average performance of Chinese stocks by sector during the rally and since the peak on 8/4. While Energy led the rally and has seen the sharpest decline, in other sectors the relationship has been much less evident. For example, Utilities and Telecom Services were in the bottom four in terms of performance during the rally, but during the decline they have also been among the weakest sectors with the second and third worst performance.” (emphasis added)

Given the degree of corrections, it appears that China’s financials are on the way to outperform but could still play second fiddle to Energy.

So while I would remain a skeptic over US financials, it’s a different story for China and for Asia.

Nonetheless if we follow Dennis Gartman’s 7th rule of his 22 trading rules, ``Sell markets that show the greatest weakness, and buy those that show the greatest strength. Metaphorically, when bearish, throw your rocks into the wettest paper sack, for they break most readily. In bull markets, we need to ride upon the strongest winds... they shall carry us higher than shall lesser ones”, then this would imply that energy, materials and financials could be the best performing sectors over the coming years and could be the most conducive place to be in to achieve ALPHA.

That’s also because China has aggressively been bidding up global resource and energy stocks, for reasons we cited in China's Strategic Resource Accumulation Continues.

Finally, this brings up a possible “window of opportunity” arbitrage for the Philippine markets. Since the local financials have severely lagged the recent rally and IF the same US-China patterns would play out sometime in the future, then positioning on financials on market weakness looks likely a feasible trade.

In addition, the underperformance of the telecom sector which has patently diverged with technology issues has piqued my interest and could be a point of discussion for another day.