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Monthly Archives: September 2015

Slowdown in Chinese Economy

30th September 2015 by | News | No Comments

Janet Yellen’s unwillingness to raise interest rates in her September decision brought to light the fragility and dependency of the United States’ economy with China. She invoked 16 times during her speech that problems in China had the potential to drag down US growth and until she felt comfortable with the downside risks of such a drag, would leave rates unchanged. Christian Lagarde, chair of the IMF compounded the effects of Yellens ‘hold’ interest rate decision after stating that the IMF is ‘worried’ about the spillover effect from the problems the Chinese economy is facing. The effects of the Chinese slowdown are clearly influential on the world’s economies but how serious is this problem and what can they do to recover from it.

China GDP
The Chinese stock market collapse in June earlier this year has seen the market down 40% from its peak. This has spooked many investors and has come at a time when monetary and fiscal policy currently employed was seen as supportive- this serving only to exaggerate its impact. Manufacturing decreased in the period of July-September, the Renminbi was devalued in August and the debt to GDP ratio has reached 250%.

Issues with Monetary Policy and the Real Estate sector within Chinese Economy

The slowdown in the Chinese economy has been significantly influenced by their strangling monetary control and faltering Real Estate sector. After the 2008 crisis the PBOC pumped huge amounts of liquidity into the economy which ran into the Real Estate and Shadow banking systems. With the help of a US dollar pegged currency, Chinese economy has, until recently, ran a GDP growth figure of 10%+ p/a but at the cost of a real estate sector that has huge levels of debt, leverage and now oversupply. The overproduction of raw materials has caused 30% overcapacity, triggering loan defaults and foreclosures in the commercial, residential and industrial property sectors. These factors are causing firm closures, decreasing FDI and a reduction in GDP. Keynesian economics suggests plenty of ‘outs’ of economic downturn by strict government intervention but this could reveal floors in the communist regime and would consequently never be explored.

china inventory

Is there a resolution?

In order to tackle these ever growing problems China need to focus on their 3 ‘Mache’- Investment in Infrastructure, Exports and Domestic consumption. The first 2 can be tackled by government policy but a nation of savers creates difficulty when trying to increase domestic consumption. Many argue that China’s focus is now on quality and not quantity and that ‘market perceptions are more divorced than ever’. Chinese economy have huge levels of bank assets(10x GDP) allowing their survival of this downturn in the short/medium term, but serious reform and strict monetary policy Is required to combat the many fundamental floors of their economic system and I have only scratched the surface.

Many argue that China’s focus is now on quality and not quantity and that ‘market perceptions are more divorced than ever’. China have huge levels of bank assets(10x GDP) allowing their survival of this downturn in the short/medium term, but serious reform and strict monetary policy Is required to combat the many fundamental floors of their economic system and I have only scratched the surface.

china economy estimated capital flow

 


 



Oil Commodity Downside Pressure

29th September 2015 by | News | No Comments
Oil Downside Pressure Rises

Both fundamentally and technically a big week for the oil markets. Commodity crisis set to continue as VW Scandal continues to unfold, Royal Dutch Shell and other Russian energy giants cease and delay offshore drilling, ECB inflation expectations turn negative, US Federal Reserve interest rate lift-off speculations and crude oil inventories data release.

Volkswagen Emissions Scandal

As the Volkswagen emissions scandal continues to unfold, econonmists and analysts are expecting a further knock on effect to the diesel markets. European refineries could be forced to switch back to boosting gasoline output and reducing diesel production and imports from Russia, the U.S. and Middle East Refineries. Gasoil futures continue to fall whilst Gasoil inventories continue to rise, putting pressure on the suppy and demand curve making a move lower in oil prices more likely.

Gasoil futures

 

Chinese Demand Knock-on Effects

Oil prices slid on Monday after china reported a drop in industrial profits from a potential weakening in demand by the world’s second largest consumer. The continuing decline in commodity prices has taken it’s toll on Glencore PLC, dropping almost 30% on the announcement from it’s CEO, the biggest decline since the company went public.

glencore plc

Glencore plc record drop

 

Energy Giants

Current oil prices remaining below $50 a barrel have contributed to energy giant, Royal Dutch Shell ceasing artic drilling operations due to fact it’s “not worth” the current price. Russian energy giants Rosneft OJSC and Gazprom have delayed offshore drilling by 2-3 eyars because of similar reasons to Shell and Russia’s roled in the Ukraine Crisis.

Central Banks

The US Federal Reserve’s potentially 2015 liftoff in federal funds base rate hikes will have further downside pressure on the oil prices. Whereas across the pond, the current level and decline in oil prices is surpressing UK and Eurozone inflation. UK inflation has already entered a period of deflation, with the ECB’s Draghi expecting Eurozone Inflation to turn negative in the coming months, counteracting the stimulus programme potentially forcing the ECB to “act” further. Next data release is 30th September.

Mario Draghi Janet Yellen

Downside Risk

Crude oil inventories data expected to be released Wednesday 30th Septemeber, an increase in inventories could see a move lower in oil price. With added pressures from the Federal Reserve, China and energy giants around the globe, further depreication in the price of oil is likely. Light crude trading at the low it’s range between $44.00 and $48.00 a barrel, brent crude trading similarly at the low of it’s range between $47.50 and $50 dollars a barell. A move through the low of the range could see light crude trading near the low of $40 and brent crude trading near the $45 a barrel levels.

light crude and brent crude

 

Charts via Bloomberg

GasOil Futures

Glencore record drop
 


 



What now for Greece – Tsipras and the ‘Extend & Pretend’ loan

23rd September 2015 by | News | No Comments

Tsipras held onto his position of Greek prime minister after defeating his main opponent Memorakis at the snap election on Sunday September 20. Greek voters-1.6 million fewer than earlier in 2015- voted in support of Tsipras’ and his Syriza party’s plans who, after a drastic u-turn are now pro austerity and have accepted the Troikas bail out plans. Does this mean Greece are now on course for recovery and a Greek exit unlikely?

Europe has been somewhat distracted with the Syrian immigration crisis and talks of a ‘brexit’ have put Greece and it’s bailout programme somewhat off the radar. Significant problems remain and when analysing the terms of the bailout it seems the successful appointment of Tsipras has removed only 1 set of risks facing Greek return to economic growth. The agreement signed in August is up for review in November and there are 4 key areas which still haven’t been reformed.

1: Pension reform is a major worry for Tsipras and is likely to cause the most upset amongst Greek population.
2: The IMF want a bigger recapitalisation of banks than Greece has planned for to protect the downside future risks.
3: Although there has been an increase in the tax bill they are still 11.9% below the target and current levels of government spending are unattainable in the long run
4: The IMF want ‘explicit and concrete debt relief from other official creditors’ before they will release their bailout funding.

When these factors are combined with the significantly harsh austerity measures already in place- small business’ must pre pay tax on forecasted 2016 profits, households must pay taxes on non performing apartments and shops, VAT hikes and pension cuts (potentially Merkels influence) to name a few- it is clear to see that the Greek people are the ones taking the brunt of the bailout.

So why was Tsipras reinstated? The main reason is seen to be that he was most likely to stick to and implement his 3 pledges plan. He pledged to combat the following key areas:
1. Further negotiations with the Troika- the deal isn’t over and set in stone yet however the agreement that ‘the Greek government must agree with Troika on all actions relevant for the achievement of the objectives of the memorandum of understanding’ suggests bartering room is small
2. Debt relief will come soon- less austerity will come and boost demand of investors. A harsh austerity of 3.5% of GDP by 2018 has already been signed, again suggesting that a promise of lightening austerity is questionable.
3. Deal with the oligarchs- the Greek oligarchs are seemingly in bed with the troika and during 2015 were using their media channels and political agents to highlight this support. Turning against the oligarchs has now been made more complicated with the disbanding of the SDOE so again Tsipras may have to find an alternative solution.

It is clear that Greece are still in substantial difficulty. The bailout currently stands at approximately €86bn and could easily get bigger. Is Tsipras the man to find a solution with his hands seemingly tied? I fear not.

 


 



Will the FED raise rates?

17th September 2015 by | News | No Comments

Thursday 17th September brings another FOMC statement from the US, the first meeting since the financial crisis in 2006 in which the chance of a rate rise is a true possibility. Janet Yellens language at the recent FOMC meetings has gradually become more hawkish, evolving from ‘Considerable time’ to ‘Patience’ to ‘Not impatient’ and at the most recent meeting has stated that the US economy is ‘Nearly balanced’ suggesting an increased likelihood of a hike.  Futures have the probability of a rate increase at 36% up from 26% suggesting that recent economic releases are leading the US into a period requiring higher rates.

The price of oil is potentially keeping inflation artificially low and a strong dollar is compounding this effect due to The US’s import driven economy.  The US employment rate is low and has continued to stay low for a sustained period of time and as a consequence inflation will begin to rise at some point. Sustained low inflation would allow the US to be more patient with there interest rate decision and problems within the emerging markets would compliment this more dovish approach. If ‘lift off’ is activated due to a ‘balanced’ economy a rate increase of 0.125 per cent is expected with a cautious Fed raising interest rates steadily to a more ‘normal’ level in the region of 2-3 per cent by 2017.

Written by Henry Green – LTG Fundamental Analyst