China: Definitely A Worse Economic Time

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Get out and stay out of China and her satellite markets!

  1. Wilting RMB

    Back on 20th December 2016, we advised that the evidence-based investor close all positions in Greater China. This is because the RMB has been wilting very much on account of currency mismatches: whilst it was strengthening, many a Chinese borrower foolishly borrowed dollars and thus had to service this dollar debt out of RMB cash flows. Now, however, the chickens have come home to roost.
  2. 25% less forex reserves

    Readers know of our business cycle's Economic Clock®, by which we tell the Economic Time® and thus make evidence-based macro investment suggestions. Since about 2015, the Peoples' Bank of China (PBoC) has to buy RMB in order to defend the exchange rate: it has to give dollars in order to get RMB and thus prop up the exchange rate. Just this Saturday, 7th January, we were told that the PBoC sold US$ 41 billion in December alone; this means that her forex reserves slid to $3.01 trillion, or by some 12% within one month. Over the whole of 2016, China's forex reserves have fallen by $419.8 billion. This means that China's monetary base must have shrunken by some 10% over the past calendar year alone! The figures get worse, the further back we go: in June 2014, these forex reserves peaked at $3.99 trillion; since then, they have fallen by $1 trillion or by 25%.
  3. What this means for China's Economic Time®

    It worsens. This depletion of forex reserves impinges big-time on China's monetary base, the clay out of which she creates her own money supply: less base, less money. Simple as that. And this reduced money supply, in turn, means that the PBoC is creating an "excess demand for money" (EDM) in the jargon of our Economic Clock®. This EDM means, by definition, that there is not enough money left over to go into assets such as the stock market, so down it has gone since early 2015.
  4. More tightening ahead

    According to Hong Kong's Sunday Morning Post of 8th January 2017, p. 1, "Based on data at the end of 2015, the IMF estimated that China needs to have foreign exchange reserves of US$1.75 trillion with capital controls and US$2.82 trillion without capital controls to counter a currency attack." Mind you, this analysis was conducted at the end of 2015, i.e. of over a good year ago. Surely the dollar-support figures must have jumped since.
  5. So what's ahead?

    According to the South China Morning Post (SCMP) of 6th January 2016, the PBoC may install more draconian measures to support the RMB: "China's policy makers were likely to order state-owned enterprises to sell foreign currency for yuan, adding weight to an earlier policy including greater scrutiny of citizens' conversion quotas and stricter requirements for bans reporting cross-border transactions, Bloomberg reported, citing unidentified people familiar with the matter." Opposite to such further tightening we read that China has allowed other top thinkers to suggest that the PBoC relinquish all RMB support. For instance, in the same SCMP we read on page one that Prof Zhu Ning, Deputy Director of Tsinghua University's National Institute of Financial Research advocates that Beijing should stop its heavy RMB support AND allow for a one-off devaluation.
  6. Monetary policy conclusion

    The truth will settle in the middle: intervention, but just less of it. So watch the RMB keep sliding. This will not only worsen China's Economic Time®, but also fan the flames of Trump & "Apprentice" Cabinet's unequivocal hatred of China, resulting in nasty trade wars.
  7. Investment implication for the evidence-based investor

    The Capital Asset Pricing Model "explains" about 70% of stock movements based on the market alone. Coupling CAPM with our Economic Clock®, stock markets in Greater China have to keep wilting on account of a worsening Economic Time®: that worsening "excess demand for money" simply means that there is not enough spare cash for stock markets. Of course, rudderless Hong Kong and maverick Taiwan will get caught in this vortex. Avoid.