China’ has “five serious problems”.

China, you’ve been told, is a rising power. Soon, you’ve been told, they’ll surpass the United States as the center of a new world order. Their annual gross domestic product averaged 9% growth from 1989 to 2022; their standing military has 2 million active personnel; their tentacles reach into Africa, the Middle East, and South America.

The real story of China is far scarier, because China is a power in a state of inevitable collapse.

First among the nation’s problems is its aging population.

China is currently the fastest-aging society in all of human history.

The vast bulk of the population is now over the age of 30. There is no supporting demographic base to pay all the bills. This is why China now has a ‘completely terminal demography.’

Chinese birthrates have declined due to the regime’s evil one-child policy that resulted in three to four percent more boys than girls being born thanks to sex-selective abortion and infanticide; families literally killing off female babies in the womb or afterward.

The policy prevented 400 million births. China’s population has already peaked — it’s now dropping. The question is as the population ages in a heavily Marxist system, who is going to pay the bills?

China also suffers from a lack of innovation.

China has no innovation, thanks to its state-controlled mercantilist schemes. Right now, the entire Chinese economy is reliant on producing things at scale, undercutting foreign markets, and stealing technology. As the young working population declines, producing things at scale becomes a lot more difficult. Cheap labor goes away.

It turns out when you nationalize all innovation, you kill it. The solution is to rob everyone else of their IP and then try to recreate it. Some reports suggest that Chinese IP theft costs the United States up to $600 billion per year. This is an unsustainable growth model. It always leaves Chinese IP well behind Western IP. They’re stealing somebody else’s technology and then they’re trying to reengineer it. This is particularly true when it comes to microchips, where China manufactures a lot of basic microchips, but has actually been cut off from the world’s markets for sophisticated microchips.

And all of that has led to a lot of national debt.

China’s growth has been disproportionately funded by debt. The country’s debt to GDP ratio is at least 159%, that is 60% higher than the global rate, according to the S&P Global Ratings. The nation’s total stock of corporate, household, and government debt is now over 300% of GDP. It comprises 15% of all debt globally, according to the Institute of International Finance.

The best visible example of China’s economic hollowness is its ghost cities. Literally cities that are just empty. China is chock filled with these so-called ‘ghost cities,’ they include, apparently, up to 65 million empty units of housing.

Politicians borrowed insane amounts of money for make-work projects, with the government then encouraging people to put their retirement money into buying empty shells of apartments, assuring them the prices would continue to rise. This has generated a looming real estate catastrophe.

And then there are China’s military problems.

While China might look like a powerful military country, the Chinese military isn’t up to snuff.

China relies on older, less sophisticated chips, according to the RAND Corporation. The United States has worked to control import of chips into China, which means that their Chinese tech is just not as good as American military tech. The United States has even prevented Chinese companies from receiving software updates, spare parts, or technological input from Americans.

What’s more, China doesn’t yet have the capacity to project deep water power. They have a lot of boats in their Navy, and their Navy is effective in coastal zones, but they have no capacity to project power beyond those zones.

Because 92% of all sophisticated microchips are produced in Taiwan, we could see China attempt to blockade the island with the threat of destroying TSMC, Taiwan’s microchip manufacturing company.

Underlying all of these other problems is the biggest one of all – China is a one-party dictatorship.

While people like Thomas Friedman of The New York Times write that ‘China’s one-party autocracy can impose the important policies needed to move a society forward’ the reality is the reverse: because the dictatorship is the be-all-end-all, it can’t allow the freedom and innovation necessary to grow the country and fix its problem. Instead, dictator Xi Jinping, in an attempt to enshrine his own power, has doubled down, seeking more economic control, more autarky, greater militarism, more carbon-based fossil fuels to push manufacturing growth.

All of this means China is in very serious trouble.

Does this mean that China is going to break apart into a million policies? No. But it means that the current regime is on shaky footing. And that means they are likely to get very aggressive in the near term, in an attempt to shore up their foundation. Because if they don’t, that collapse is going to happen sooner rather than later.

The world’s second-largest economy is in a predicament and the property market stands at the heart of its troubles. Construction accounts for as much as a quarter of China’s gross domestic product, but real estate reverberations are shaking up confidence and many are afraid about knock-on effects on the overall economy. Housing sales, prices and investment are falling, while a deflationary spiral threatens to fuel an even bigger disaster for a country that just experienced three years of strict zero-COVID controls.

The world’s most indebted property developer, China Evergrande (OTC:EGRNF), just filed for protection under Chapter 15 of the U.S. bankruptcy code, which shields non-U.S. companies that are undergoing restructuring from creditors. Evergrande already slipped into a liquidity crisis in 2021 following government efforts to curb speculation in the sector, and currently has around $300B in liabilities. Another Chinese developer, Country Garden (OTCPK:CTRYF), has also been in the spotlight after missing dollar-denominated debt payments, but the bigger fear here is that the property crisis may be expanding from the private sector to companies with state backing.

Meanwhile, China’s central bank has stepped up to defend its currency following the latest series of weak economic data releases. The midpoint on the onshore yuan was set at 7.2006 against the dollar overnight, while the Hang Seng benchmark index (HSI) closed in bear market territory, more than 20% below its last highs in January. Problems in China might also be leading to flight-to-safety trades, with the yield on the benchmark 10-year U.S. Treasury this week surging to its highest level since 2007.

The People’s Bank of China has been cutting interest rates – and there has been talk about tax breaks and incentives – but many of those stimulus measures helped fuel China’s rapid expansion and the real estate bubble in the first place. There are also structural issues at play, such as slowing urbanization and a shrinking population, meaning policymakers might have to prepare for an extended period of weaker growth. A “go big or go home” strategy might be the only way out of the cycle, with the government absorbing soured assets, but that could also be a challenge given deflationary risks and whether it would go far enough to restore investor confidence.

This just in – China to stop releasing the youth unemployment numbers. The number of jobless sixteen-to-twenty-four-year-olds has been steadily climbing (WSJ), reaching a rate of 21.3 percent in June. Withholding the unemployment statistics expands Beijing’s data restrictions to prevent external criticism of its economy, which is growing increasingly distressed. China also cut a range of interest rates.

The PBoC unexpectedly cut its one-year benchmark rate as economic activity slumps.

 

 

Source: Reuters   Read full article

 

  • Developers’ share prices in Hong Kong:

 

 

Could financial firms be next?

 

Source: @markets   Read full article

 

The Chinese government cutting key interest rates for the second time in three months. Credit numbers on Friday showed a major slump in demand for Chinese business and consumer borrowing. New local-currency bank loans plunged by nearly 90% in July from June to the lowest level since 2009.

What’s more… the country’s top private property developer, Country Garden, is reportedly close to defaulting.

China’s official statistics bureau stopped breaking down unemployment by age groups.

Why? Because youth unemployment – an extremely troubling trend in China that had risen to a record high of 21.3% in June – is probably worse now.

Steps to increase liquidity in the Chinese economy haven’t translated into more economic activity, “likely due to low business confidence.”

That stems from the hits the Chinese real estate industry has taken in the last several years, which we mentioned yesterday regarding Evergrande’s plight in 2021, ghost cities, and the country’s top private-property developer on the verge of default.

The growth in prices of newly built homes in China has been steadily falling after President Xi Jinping declared in 2017 that property should be lived in, not for speculation. They removed that wording during the last Politburo speech.

Whether prices start posting healthy growth again depends a lot on Beijing being able to address the current debt issues facing developers, as well as convincing Chinese citizens that it will no longer attempt to kill the ability of property to rise in value.

Millions of people hope for a better life through the time-proven ability of real estate to increase wealth. It’s why 70%+ of Chinese household wealth is in property. Take away its ability to generate solid returns and you douse people’s dream of attaining a better life for them or their children.

People become more anxious about the future and they will hold back on spending. I expect Beijing to come out with more measures to try restoring confidence in the coming days and weeks. No other choice.

Here are four takeaways for what trouble in China could mean for you and your money.

  1. The short-term impact on the U.S. dollar. My first, macroeconomic takeaway is that a stimulative Chinese economic policy could mean a weaker yuan in relation to the U.S. dollar – for now…

You may ignore currency moves in your own portfolio, but they are hugely significant.

The dollar has risen about 2.5% versus the Chinese yuan in just the past few weeks (since a low on July 25). At the same time, the U.S. Dollar Index – which doesn’t include the yuan, but measures the dollar in relation to the euro, Japanese yen, British pound, Canadian dollar, Swedish krona, and Swiss franc, is up about 1.5%… and the U.S. benchmark S&P 500 Index is down 2.5%.

This may not seem like a big move for the Dollar Index. But the recent behavior has pushed it through its 50-day moving average and, as of today, its 200-day moving average. A sustained move above that measure of a technical long-term trend could be a bearish sign for stock prices ahead.

So any strong-dollar headwinds that may result from Chinese (or other nations’) weakness may be a short-lived risk for U.S. stocks and Gold and Silver too. We’ll see.

  1. The impact globally. In any case, a serious slowdown from the world’s second-largest state economy will be a drag on the global economy. Like it or not, Chinese growth over the past few decades has contributed greatly to global growth.

I think this is what we may have seen reflected in markets today, with oil prices down 2%, the S&P 500 Index’s energy sector off by about the same, and the major U.S. indexes down close to 1% overall.

Over the longer run, a weaker Chinese economy may help U.S. fortunes by possibly bringing down inflation and – if there are any capable U.S. government leaders out there – providing some leverage in various geopolitical tensions.

Lower export prices from China could also benefit U.S. companies. But fewer imports to China could also mean less profits for businesses in various other economies, like in Europe.

  1. It foreshadows what could happen here. Remember, rate cuts – while intended to boost economic activity – only happen from central banks when things aren’t going well on their own. That’s certainly the case in China today.

After seeing a similar rally to the one the U.S. enjoyed off last October’s bottom, the iShares China Large-Cap Fund (FXI), for example, has traded sideways since March. Consumer confidence has cratered, and 20% of young people looking for a job in cities can’t find one.

Now you have the leaders of one of the world’s largest economies looking to stimulate things as it copes with the threat of deflation. If the Chinese stimulus is successful, it would boost inflation by juicing prices.

This is a scenario the Fed could face down the road if it’s looking to boost the economy amid rising unemployment. If inflation is still historically high, decisions will need to be made. Or if deflation is something to address, that will mean nobody is happy.

  1. A state of unrest. Last and not least – and probably most important over the long run…

An economy in need of support is more evidence of unease among the people of China and a backdrop for possible unrest. This could further contribute to its leaders’ geopolitical angst with respect to any number of issues, including those of the U.S. with respect to Russia and Taiwan.

After all, throughout history, how many eventual external conflicts between nations have been fueled by the internal problems of one or both? Quite a few, as you likely know.

You may have heard President Joe Biden’s latest comment at a fundraiser that China is a “ticking time bomb” because of its economic situation, saying that “when bad folks have problems, they do bad things.”

Biden also recently signed an executive order regulating investments from U.S. venture funds and private-equity firms in Chinese companies focused on semiconductors, quantum computing, and artificial intelligence.

The order is aimed at preventing American dollars from helping China use “sensitive technologies and products” from the U.S. “for the purposes of achieving military dominance.” And it says exporting such technologies poses a national-security risk.

I’m not saying China’s current economic slowdown will lead to immediate war, but it certainly doesn’t lower the temperature of major geopolitical tensions in East Asia.

Beijing’s focus shifts to shadow banking.

 

Source: @markets   Read full article

 

Source: @markets   Read full article

 

China may seem like a distant issue, but we’re going to keep an eye on it.

And Russia?

A collapse in commodity-based export revenues and extensive military spending have also weighed on sanctioned Russia, which just saw the ruble fall past the psychologically important level of 100 to the dollar after tumbling 37% YTD.  Russia’s central bank hiked rates by 3.5 percentage points at an emergency gathering, bringing its key rate to a total of 12%, fearing inflationary pressures that could ripple through its economy.

As many Western companies have already pulled out of Russia, or are attempting to do so, investors are keeping a closer eye on the impacts of multinationals operating in China. Recent earnings calls from industrial players have flagged increasing headwinds, such as warnings from Caterpillar (CAT), Danaher (DHR), Dow Inc. (DOW), DuPont (DD), LyondellBasell (LYB) and Parker Hannifin (PH).

 

The Presidential Cycle

 

This chart follows the trend in the Dow Jones Industrials over a four-year presidential cycle based on daily data starting in the year 1900.

  • In this graph, the trend is more important than the actual level of the Dow.
  • The chart shows that there has historically been a significant upward trend in the second half of an election year and the first half of the third year in a President’s term.
  • The blue line plots the average trend in the Dow Industrials. The shaded zone highlights that we are in the 3rd year of the current Presidential Cycle.
  • The historical data is saying the balance of the year should be lower for the Dow (and the stock market in general). Bumpy in the first half of next year and strong in the second half of next year. It most certainly could play out differently. If we do have a Q4 correction and stock market correction, it may be a good time to trade back into stocks.

 

 

From a technical perspective, very little is “bearish” with the current market environment. Market breadth has improved from earlier this year, showing a broader participation of stocks in the rally, and the market trend remains bullish. Furthermore, the market completed a 78.6% retracement of the 2022 decline, suggesting markets are more likely to retest all-time highs than lows.

The percentage of stocks on bullish buy signals has risen markedly, indicating support for the rally. While high readings of stocks on buy signals tend to align with short-term market corrections, they also support continuations of bullish trends. Such is particularly the case when reversing from low levels.

 

The Magnificent Seven

 

The seven mega-tech stocks, known to some as the Magnificent Seven, have had a magnificent advance since late last year, but now we’re seeing some weakness, and it is likely that they will be under-performing for a while. Many have been affected by an emerging expectation of miracles from Artificial Intelligence (AI), but these expectations have no specific manifestation at this point in time. More like irrational exuberance, for the time being. Let’s look at their charts.

APPLE (AAPL)

Since the price low in early-January, AAPL has maintained an orderly advance until early this month. Then it broke down through the seven-month rising trend line with a vengeance. After an -11% decline, it has paused on obvious support, forming a bearish reverse flag. Our expectation would be for a continued decline.

 

 

Amazon (AMZN)

AMZN has been advancing since the December price low. In July, it began forming a bearish rounded top, but it gapped up last week on the earnings report. Since then, we have been witnessing a technical pullback. Currently, we see the recent price cluster as possibly being a setup for an island reversal, which would result in price gapping back down to horizontal support at about 125.

 

 

Alphabet, Inc. (GOOGL)

GOOGL made a low in November, before beginning a gradual advance, which resulted in the formation of a saucer. It gapped up and out of that saucer in May and began forming a handle on the saucer in June and July. In late July, it gapped up again and has since been forming its own island formation, which, of course, has the potential to reverse and gap down.

 

 

Meta Platforms, Inc. (META)

META hit a bear market bottom in November, then entered an orderly and profitable advance. At this writing, the rising trend is still intact, but with technology stocks currently in correction, we would expect that META will follow suit. The first line of support is just below 280, and the next just above 240.

 

 

Microsoft (MSFT)

MSFT bottomed in November and has since been forming the right side of a saucer formation. In June, it began moving sideways, forming a handle on the saucer. This is a bullish formation, but there is some potential downside as the handle is formed–maybe down to 290?

 

 

Netflix (NFLX)

NFLX bottomed over a period of three months last summer (not shown) and has since had a somewhat choppy, but persistent, advance. The two “swoosh” marks emphasize how corrections tend to follow advances that become too vertical. The relevant feature at present is a head-and-shoulders formation with a neckline drawn across the two lows. If the formation executes (price drops below the neckline), the minimum downside projection is about 350.

 

 

Nvidia (NVDA)

NVDA was the company that benefited most from AI fantasies with a mighty up gap in May. Since the July top, it has been giving back some of its gains, and it is currently in a declining trend. A reasonable downside projection would be down to the top of the gap around 360-ish, which would be a decline of about -25%.

 

 

The technology sector has gone into correction, and most of the big tech stocks are feeling some of the heat. Of those not yet correcting, we think it likely that they will also succumb soon.

 

US Economy

 

  • Producer prices increased more than expected last month, …

 

 

  • The S&P 500 ex-energy margins have been rising.

 

 

  • Treasury yields climbed further in response to the PPI report.

 

 

  • According to Bankrate.com, the 30-year mortgage rate hit the highest level since 2001.

 

 

  • The U. Michigan index of consumer sentiment was roughly flat this month.

 

 

  • Last month’s retail sales topped expectations, suggesting that consumers are not retrenching.
  • Robust Amazon Prime Day and back-to-school sales contributed to the upside surprise.
  • US firms are increasingly taking action on nearshoring.

 

 

  • The 10-year Treasury yield hit a multi-year high.

 

 

 

  • The Conference Board’s leading index continues to signal an economic slowdown.

 

 

  • Small businesses fueled US job gains this year. But now small firms are reporting deteriorating sales.

 

 

  • The Philly Fed’s regional manufacturing index points to improving factory activity.
  • Factories are increasing workers’ hours as demand picks up.
  • However, more companies are reporting rising costs.
  • Manufacturers are cutting their CapEx plans.

 

 

  • Housing affordability hit its worst levels in decades last quarter.

 

 

  • Now, with mortgage rates at over two-decade highs, affordability has deteriorated even more.
  • Next, we have some updates on inflation. Disinflation appears to be intensifying.
  • Inflation expectations continue to ease.

 

 

  • Stifel expects headline inflation to settle near 3.5% later this year, which could keep monetary policy tight.

 

Market Data

 

  • The market is pricing in a no-recession scenario.

 

 

  • Fund managers have been dumping REITs …

 

 

  • amid concerns about commercial real estate.

 

 

  • Bonds have been dragging stocks lower this month, …

 

 

  • US firms with substantial exposure to China are having a rough month.

 

 

Quote of the Week

 

“You can always count on the Americans to do the right thing after they have tried everything else.” – Winston Churchill

 

Picture of the Week

 

Giant Sequoia

 

 

 

All content is the opinion of Brian Decker