Tag: Russia

December 23, 2016December 23, 2016

December 16 – December 22, 2016

China no longer the largest US creditor – Japan is again. China capital outflows, have you looked at the bank loans? Brazil’s Odebrecht just got served the FCPA’s largest settlement.

Happy Holidays!

Headlines

FT – Ferocious competition roils private equity market 12/17. Deal volume is down, acquisition multiples are up (“acquisitions made in the first half of this year required private equity managers to pay on average 10 times the cash flow of a target company, well above the previous peaks for deal valuations in 2006 and 1999”), dry powder is at a record closing in on $1tn, and future returns are looking skinny, but then again consider your options in stocks and bonds.
FT – Private equity: lowering the bar 12/20. Following on the previous headline, despite – or rather because of – lower projected returns, top tier private equity groups are able to dictate terms on investors. In some cases lowering the hurdle rate from 8% to 6% or in some cases just removing them altogether…
NYT – Calpers Cuts Investment Targets, Increasing Strain on Municipalities 12/21. Calpers is reducing benefits and lowered its return assumptions from 7.5% to 7.0% to be phased in over three years. Oh, and “shifting expectations down to 7% will force the State of California to contribute an additional $2 billion a year for state workers…”

Special Reports / Opinion Pieces

FT – The Opec agreement: Russia’s role adds a geopolitical twist – George Abed 12/15
- “The three-way oil agreement involving Russia, Saudi Arabia and its GCC neighbors, and Iran, who in combination produce nearly a third of global supplies, is likely to have tamed the wild gyrations of the oil market, at least for a time. More significantly, the accord may have given rise to an uneasy alliance of convenience which may have broader implications, for the future of the Middle East as much as for the global oil markets.”

Briefs

Andres Schipani of the Financial Times illustrated how hyperinflation is at Venezuela’s doorstep.
- Last week the Venezuelan President Nicolas Maduro “announced plans to scrap the ubiquitous 100 bolivar bill, which makes up about half the country’s banknotes but is increasingly worthless as annual inflation is forecast to top 1,600% next year.”
- “The plan, which the government insists is necessary to fight currency hoarders and counter an ‘economic war’, is to replace the old money with new high denomination notes, including 20,000 bolivar bills.”
- However, due to looting, riots, and protests that accompanied this initiative, the president has extended the currency’s use until sometime in the new year. This of little comfort with monthly inflation above 50% and where it is difficult to obtain high denomination notes.
- “Caracas-based consultancy Ecoanalitica said the range of notes reflected inflation of 17,011% since the older notes were first launched in 2008.”
Chris Kirkham of The Wall Street Journal highlighted that the percentage of young Americans living with their parents is at a 75-year high.
- “Almost 40% of young Americans were living with their parents, siblings or other relatives in 2015, the largest percentage since 1940, according to an analysis of census data by real estate tracker Trulia.”
- “The result is that there is far less demand for housing than would be expected for the millennial generation, now the largest in U.S. history. The number of adults under age 30 has increased by 5 million over the last decade, but the number of households for that age group grew by just 200,000 over the same period, according to the Harvard Joint Center for Housing Studies.”
- Why? “Analysts point to rising rents in many cities and tough mortgage-lending standards as the culprit…”
- Well at some point this back log is likely to play out with an increase in household formation and housing starts. As it stands, “economist project the historically large millennial generation will more than double its current number of households through 2025.”
Rachel Sanderson, James Politi, and Martin Arnold of the Financial Times covered the Italian bail out of the world’s oldest bank – Monte dei Paschi di Siena bank.
- “Monte dei Paschi di Siena is to be rescued by the Italian state using a new €20bn bailout package, as a last-gasp private sector rescue plan for the world’s oldest bank looked set to fail, forcing losses on bondholders.”
- “The state funds to rescue the bank would come from a €20bn package approved by both houses of parliament on Wednesday that could be used to bail out several of Italy’s most fragile banks. Goldman Sachs estimates they need €38bn to be adequately capitalized.“
- Granted, not everyone is pleased. “A backlash against a taxpayer-funded bailout of Italy’s weakest lenders has already begun. Codacons, a consumer lobby group, estimated €20bn ploughed into Italy’s failing lenders would cost each Italian family €833.”

Graphics

WSJ – Daily Shot: Vancouver Housing Market Correction 12/18

WSJ – Daily Shot: Declining income mobility in US 12/18

Visual Capitalist – 75 Years of How Americans Spend Their Money – Jeff Desjardins 12/19

WSJ – Daily Shot: S&P vs. Treasury Spread 12/20

FT – China’s ‘airpocalypse’ hits half a billion people – Yuan Yang 12/19

WSJ – Daily Shot: Change in Mortgage Rates Since Election 12/21

WSJ – Daily Shot: Percentage of Adults Without Children in House 1967 & 2016 12/21

FT – Hedge fund fees take a trim – Lindsay Fortado 12/21

Featured

*Note: bold emphasis is mine, italic sections are from the articles.

China cedes status as largest US creditor to Japan. Tom Mitchell, Joe Rennison, and Eric Platt. Financial Times. 16 Dec. 2016.

“Beijing’s ownership of US Treasuries fell by $41.3bn to $1.12tn in October, according to data from the US Treasury released on Thursday – the sixth straight month of decline. Japan’s holdings fell by $4.5bn to $1.13tn for the same period.”

According to Eswar Prasad, an economics professor at Cornell University and former IMF director for China, “this pattern is unlikely to be reversed in the near future, especially with US and Chinese economic fortunes and monetary policy stances continuing to diverge. The days of China providing abundant and cheap financing for US budget and current account deficits through the purchases of Treasury securities may have come to an end.”

“China and Japan account for 37% of the total $6tn of holdings tracked by the Treasury and Federal Reserve.”

China capital outflows: bank loans dwarf foreign deals. Gabriel Wildau and Don Weinland. Financial Times. 17 Dec. 2016.

“While an overseas buying spree by Chinese companies has grabbed headlines, more mundane activity such as trade finance and corporate cash management are a much bigger strain on China’s foreign exchange reserves, analysis of official data shows.”

“‘Several hundred billion in outflows are simply associated with repayment of existing loans,’ said Brad Setser, a senior fellow at the Council on Foreign Relations and former US Treasury official.”

“Foreign bank claims on China, a broad measure of cross-border lending, have fallen by $305bn in the 18 months through June this year, according to the most recent figures from Bank of International Settlements, showing how banks are pulling funds from the country. Claims had risen by $643bn in the previous two years.”

“Much of this lending came in the form of trade finance. When the renminbi was appreciating against the dollar, Chinese importers eagerly borrowed in dollars.”

“‘Corporates rushed to raise funding in dollars because interest rates were very low. Now that carry trade is being unwound,’ said Harrison Hu, China economist at Royal Bank of Scotland in Singapore.”

“To be sure, the regulatory focus on corporate deals is a response to a rapid acceleration of outbound FDI. But it also reflects the lower disruption from tightening the reins on foreign acquisitions compared with forcing loan or bond defaults by blocking cross-border debt repayments.”

“‘The cross-border regulations could definitely have an impact on companies that have offshore debt,’ said Xia Le, chief Asia economist at BBVA in Hong Kong. ‘There is a concern that many will have to refinance but at a much higher cost. They will need to issue very high-yielding bonds.'”

Brazil’s gargantuan corruption scandal goes global. Economist. 22 Dec. 2016.

“On December 21st America’s Department of Justice (DoJ) reached a $3.5bn settlement with Odebrecht, Brazil’s biggest builder, and with Braskem, a petrochemical joint venture between that firm and Petrobas. The DoJ alleges that since 2001 Odebrecht and Braskem paid $788m in bribes to officials and political parties in Brazil and in 11 other countries.“

“The payoffs brought Odebrecht and Braskem contracts for around 100 projects, many of them to build public infrastructure. Often, governments paid more for the work than they needed to. The DoJ alleges that Odebrecht set up a ‘Division of Structured Operations,’ which ‘effectively functioned as a stand-along bribe department.'”

“The settlement is the biggest yet under America’s Foreign Corrupt Practices Act (FCPA). It is more than double the previous record: $1.6bn paid by Siemens, a German engineering giant, in 2008.”

“Odebrecht has accepted that the appropriate fine for the company is $4.5bn but says it can only afford $2.6bn; the remaining $900m is owed by Braskem.”

Additionally, now the authorities in the 11 countries will have a crack at the two companies.

Either way “Odebrecht is a shadow of its former self. To survive the investigations, it has been retrenching. Over the past three years the company has reportedly laid off 100,000 of its 181,000 employees, most of them since the launch of the Petrobas investigation in March 2014…. Even Odebrecht’s stake in Braskem, which makes up half of the construction firm’s revenues, may be up for sale. That is quite a comedown for a company named in 2010 by a Swiss business school as the world’s best family-run firm.”

Other Interesting Articles

Bloomberg Businessweek

How Big-Box Retailers Weaponize Old Stores

The Economist

The lessons from Aleppo’s tragic fate
China’s digital dictatorship
- “Officials talk of creating a system that by 2020 will ‘allow the trustworthy to roam everywhere under heaven while making it hard for the discredited to take a single step.'”
A cheaper currency does not always boost economic growth
Venezuela’s lunatic experiment in demonetization
Free exchange – Place-based economic policies as a response to populism
- Orthodox economics is distressingly unhelpful in solving the problem of regional inequality

FT – Central bank injection soothes China credit squeeze 12/15

FT – China’s exports to the US fall for first time since crisis 12/15

FT – US drugmaker charges 200 times UK price for common worm pill 12/18

FT – Vanke: to our sponsors 12/19

FT – Yield on German two-year debt falls to new low 12/19

FT – Uber racks up $800m third-quarter loss despite China exit 12/19

FT – Italy seeks up to €20bn to prop up fragile lenders 12/19

FT – China’s bull market in bonds on borrowed time 12/19

FT – Lawyers demand Chinese government action to clear smog 12/20

FT – US sues Barclays for fraud over crisis-era loans 12/22

LinkedIn – Reflections on the Trump Presidency, One Month after the Election (Ray Dalio) 12/19

Miami Herald – Miami Beach wants to know if you’re renting your condo on Airbnb 12/15

NYT – How Republics End (Krugman) 12/19

NYT – Hedge Fund Math: Heads We Win, Tails You Lose 12/22

ValueWalk – CalPERS Cuts Retiree Benefits For First Time Ever 12/20

WSJ – China Halts Trading in Key Bond Futures as Panicky Investors Sell Securities 12/15

WSJ – Surging Dollar Upends China’s Huge Bond Market 12/16

WSJ – Platinum Partners’ Executives Charged With $1 Billion Securities Fraud 12/19

August 26, 2016August 25, 2016

August 19 – August 25, 2016

It’s getting hot out there. When picking your emerging market investments, be mindful of its exposure.

Headlines

WSJ – Russian Builds Up Army Near Ukraine Border 8/19. “Russia’s plans around the Ukrainian border show a real intent to use force if needed.” – Anton Lavrov
FT – RBS to start charging large UK clients to hold cash 8/19. The Royal Bank of Scotland has become the first UK Bank to start charging its larger corporate customers for holding their cash… more to follow.
WSJ – Oil Market Boost May Come from Venezuela, Not Algeria 8/19. “Venezuela produced the least oil in June in over 13 years and output had declined by more than 200,000 barrels a day in just the first half of 2016. That is half an Alaska’s worth of output.”
NYT – Nearly 1,800 Killed in Duterte’s Drug War, Philippine Police Official Tells Senators 8/22. Three weeks ago the number was 420. Duterte was only sworn into office seven weeks ago. Careful who you vote for.
Bloomberg – NYC Apartment Tower Without Tenants for Sale as Buyers Swarm 8/17. For those not in real estate, delivering an empty high-rise to the market is just plain crazy… a symptom of the low interest rate environment.

Briefs

Bruce Kelly of InvestmentNews does a good job of highlighting some of the structural problems the nontraded REIT industry faces now that real estate valuations have gotten quite rich.

The nontraded REIT industry is having a hard look at itself. Inland is eliminating its transaction fees and new entrant to the sector – but definitely not to institutional real estate investment – Blackstone Group has not committed to a specific yield – the primary attribute for selling these investments.
The thing is “Cap rates, a key valuation measure for real estate, have decreased dramatically since the credit crisis, while valuations of quality properties have increased. That means commercial real estate is simply too pricey to generate the promised returns (generally 6-7%) brokers need to pitch nontraded REITs to clients.”
“The math of these programs is much more challenging today. Cap rates are lower and I think the dividend yields have to come down. The publicly traded REIT market is paying a 3.5% dividend yield, on average.” – Allan Swaringen, president and CEO of JLL Income Property Trust
And with a lower fee structure I might add…
One thing to be mindful of in investing in nontraded REITs are their dividend coverage ratios. “That ratio, a REIT’s cash flow versus its dividend, or distribution, is one of the most important metrics for investing in nontraded REITs, which often resort to returning investor cash to pay for or cover the 6% or 7% dividend. Any return of investor money diminishes the REIT’s ability to perform in the long term.”
Bottom line, “nontraded REIT sponsors and advisers who sell them can say au revoir to the product’s most important marketing component: the promise of generating annual returns of 6% or 7% to yield-starved investors.”

Min Jeong Lee, Yuko Takeo, and Nobuyuki Akama of Bloomberg covered the profit slump of Japanese corporates and the trouble that lurks.

“Trends that slammed profit in the first quarter – a stronger yen, negative interest rates and slumping China growth – haven’t reversed. At stake is a second straight year of earnings decline that could buy Prime Minister Shinzo Abe’s push for companies to boost capital spending and raise wages to spur economic growth.”
“With negative interest rates grinding away bank profits and a stronger yen bearing down on carmakers, aggregate operating income plummeted 17% in the June quarter, the biggest quarterly decline since 2011. That’s the year an earthquake in Fukushima and subsequent tsunami caused the yen to gain and stocks to drop.”

Laura Kusisto of the Wall Street Journal drew attention to a disrupter (Host Compliance) of a disrupter (Airbnb).

Airbnb has changed the short-term rental business in a big way. The company “now operates in 34,000 cities around the world and was recently valued by investors at $25.5 billion.”
On top of that, Airbnb has created an ecosystem of other companies that help landlords rent, maintain, and operate their units…
Well one of the recent companies created, Host Compliance, is the ‘tit for tat.’ Rather than assist people to attain the most out of their Airbnb listings, the company actually is set up to help cities and municipalities in the policing of their short-term rental regulations by sifting through the vast amount of listings data and providing reports on violations.
No surprise, most governments are overwhelmed and not truly set up to properly track abuses to their rules, hence they’re always playing catch up to tech innovators. I suppose it won’t be long that other tech innovators will pop up to “check-in” on other tech disrupters…

Eliot Brown of the Wall Street Journal focused his spot light on the real estate market of San Francisco and the effects of the surging tech market.
- As the tech industry continues to boom, its companies continue to crowd out other businesses from San Francisco’s office market, ultimately reducing the city’s “economic diversity, giving it an enormous concentration in an industry that is particularly prone to economic swings.”
- “Tech companies now occupy more than 29% of the city’s occupied office space, according to real-estate-services firm CBRE Group Inc. That is roughly double what the industry occupied in 2010 as well as the height of the dot-com bubble in 2001, CBRE said.”
- “What’s more, the bulk of those occupying that office space are startups or those that recently went public, typically unprofitable companies that are considered some of the most volatile.”
- “Looming in the minds of many in San Francisco is the city’s experience after the dot-com bust of 2001. Even though the tech sector was centered more in Silicon Valley to the south, the local economy was pummeled. Office vacancies soared above 20% from less than 4%, according to Cushman & Wakefield.”
Gabriel Wildau of the Financial Times reports that it was only a matter of time that Chinese regulators would tighten the noose on the P2P market.
- China has just formalized new regulations for the Peer-to-Peer (P2P) market in the country. “Regulators and courts have previously issued many of the prohibitions contained in the latest rules in different forms, but the latest regulations mark the first comprehensive framework for regulating P2P lenders in China.”
- “The rules, issued on Wednesday, forbid online lenders from accepting deposits or guaranteeing principal or interest on loans they facilitate. They ban P2P platforms from securitizing assets or offering debt transfer mechanisms that mimic securitization. Companies are prohibited from using P2P platforms to finance their own projects.”
- “Their fundamental nature is information intermediation, not credit intermediation.” – banking regulator
- “Outstanding loans from 2,349 P2P platforms totaled Rmb621bn by the end of June, the banking regulator said in a statement on Wednesday. But an additional 1,778 ‘problem platforms’ have also been established, equal to 43% of all platforms.”
- “The latest rules also prohibit P2P groups from operating ‘fund pools’ in which investor funds are not matched with specific loan assets. The banking regulator noted that ‘Ponzi schemes’ – in which inflows from new investors are used to finance payouts on maturing obligations – have been a problem for the industry.”

Special Reports

Oaktree Memo – Political Reality – Howard Marks 8/17
FT – Pensions: Low yields, high stress – John Authers and Robin Wigglesworth 8/22
- With a median 401(k) account balance of $104,000 for US households near retirement, that would imply a $4,000 annual income should they follow standard withdrawal practices.
Mauldin Economics – Renzi’s Great Gamble – Nick Andrews and Stefano Capacci 8/24
- Italian Prime Minister Matteo Renzi has put forth a referendum to vote this upcoming October that would enable him to move forward some much needed reform in the country. Should a “No” vote succeed, it “…will not just precipitate the fall of Renzi’s government; it could throw Italy’s long term membership of the eurozone into doubt, plunging the single currency area once again into crisis.”

Graphics

CBO – Trends in Family Wealth, 1989 to 2013 8/18

FT – Pensions: Low yields, high stress – John Authers and Robin Wigglesworth 8/22

FT – US charitable foundations hit by plunging returns 8/23

Featured

*Note: bold emphasis is mine, italic sections are from the articles.

Think It’s Hot Now? Just Wait. Heidi Cullen. New York Times. 20 Aug. 2016.

“July wasn’t just hot – it was the hottest month ever recorded, according to NASA. And this year is likely to be the hottest year on record.”

“Fourteen of the 15 hottest years have occurred since 2000…”

Silver lining…good for solar.

As China nears exhaustion investors must look elsewhere. James Kynge. Financial Times. 24 Aug. 2016.

As yield is vanishing from developed world economies – there is $13tn in negative-yielding debt outstanding at the moment – emerging market economies have seen a lot of interest of late… however, try to see it in context.

“The drive behind this intense demand for EM has nothing to do with EM. The one thing that emerging markets have that everyone wants right now is not raw materials or cheap labor, it’s yield. When you have negative interest rates in Europe and Japan, and zero rates everywhere else, the politics and economics of these countries becomes irrelevant.” – Michael Hartnett, chief investment strategist at Bank of America Merrill Lynch

“Thus, emerging markets are flattered by a perception they are the least bad option for investors.”

However, investors need to be wary of the exposure that many EMs have to China.

China is having ever greater difficulty in producing economic growth – at least of the levels of the past few decades (which is to be expected). “Before the global financial crisis in 2008, China needed just over one dollar of credit to deliver one dollar of gross domestic product growth, the ratio is now six to one, according to Morgan Stanley.”

“Although the economy is said to be growing at 6.7%, investment growth by private companies slowed to 2% in July, demonstrating that the most potent force in the Chinese economy sees scant hope of a return.”

“Scarcity of opportunity amid an abundance of growth defines China’s enervated state. So generous have banks, capital markets and shadow financial institutions been to virtually anyone who wishes to borrow that almost every industry is in a state of oversupply, slashing profits.”

“Standard & Poor’s, the credit rating agency, is the latest to raise the alarm. The anemic profits of Chinese companies is likely to intensify their need to borrow more merely to repay maturing debts, helping to drive global corporate debt levels to worrying levels by 2020.”

“Corporate debt is set to expand by half to $75tn over the next five years, according to S&P. China’s share of this debt is likely to rise to 43% in 2020 from 35% in 2015, the rating agency said, largely through companies borrowing to repay debts that are coming due.”

Bottom line, don’t throw out your fundamental analysis models just yet…

Other Interesting Articles

The Economist

Bloomberg – Why It’s So Hard to Build Affordable Housing: It’s Not Affordable 7/26

FT – We must protect shareholders from executive wrongdoing 8/18

FT – Retailers reveal why US earnings season was fundamentally weak 8/18

FT – Paul Singer says bond market is ‘broken’ 8/18

FT – Venezuela’s problems can no longer be ignored 8/18

FT – Is greed good? No, it’s seriously bad for your wealth 8/19

FT – Hackers expose holes in road for smarter cars 8/19

FT – Oil company dividends: flare-up ahead 8/21

FT – #fintech Sidelining the mobsters in China 8/22

FT – Forget Fed rate calls – be ready for the return of inflation 8/22

FT – China close to launching credit default swap market 8/22

FT – Mongolia tightens belt as debt payments loom 8/24

FT – The canary in the coal mine for China’s currency 8/24

IPE – Redemption requests begin to build among core US property funds 8/24

National Real Estate Investor – Drop in 10-year Treasury Gives Real Estate Pricing a Lift 8/24

NYT – Chilling Tale in Duterte’s Drug War: Father and Son Killed in Police Custody 8/19

NYT – More of Kremlin’s Opponents Are Ending Up Dead 8/20

NYT – The Housing Market Is Finally Starting to Look Healthy 8/23

WSJ – Chinese Bank Shows How To Move Risks Around 8/19

WSJ – One Policy to Rule Them All: Why Central Bank Divergence Is So Slow 8/22

WSJ – China’s Online Lenders Face Peer-to-Peer Pressure 8/25

WSJ – What to Learn From the ECB’s Great European Corporate Bond Squeeze 8/25

May 13, 2016May 13, 2016

May 6 – May 12, 2016

China’s coming debt bust.

It’s a short one this week – traveling with the family. Enjoy!

Headlines

FT – Chinese retail investors throw global commodities into a tailspin 5/6. Without a better outlet, money from Chinese retail investors has found its way to the commodity markets.
FT – Canada’s wildfires could blaze for months 5/8. So far more than 1,500 square km have been consumed and the fire is at the footsteps of neighboring province, Saskatchewan.
NYT – Anger Overflows in Nigeria as Economy Dives 5/9. The country is reaching a boiling point.
FT – China party mouthpiece echoes Soros’ debt fears 5/10. Basically an unnamed ‘authoritative’ figure within the country acknowledged that the country’s debt levels pose a systemic risk.
NYT – Brazil’s Senate Votes to Begin Impeachment Trial of Dilma Rousseff 5/12. VP Michel Temer will take charge now while the trial gets underway.

Briefs

Adding to this week’s feature is Ben Bennett’s piece in the Financial Times basically saying that by pushing out the problem (China’s growing debt imbalance), it will only make the remedy worse.
- “Estimating the amount of debt that needs to be written off by China is not an exact science. It boils down to how much excess capacity has been built with little chance of making an economic return. Julien Garran at MacroStrategy estimates there has been around $8tn of excess fixed capital formation in China since 2008, which, assuming that 60% turn into non-performing loans and a 40% recovery rate, suggests losses of $3tn. This is about 30% of Chinese GDP. Autonomous Research gets to a similarly large number by looking at losses realized by other countries following their own credit bubbles. This far outstrips the loss-absorbing capacity of the financial system, and would therefore require significant state support to resolve.”
Shifting our attention further West (if the reference point is China), Anna Andrianova and Andrey Biryukov of Bloomberg highlight that Russia is grappling with deflation as its economic sickness gets worse.
- “Russia’s longest recession in two decades has obliterated consumer demand. Price growth has slowed for a seventh month. Goldman Sachs predicts Russia’s annual inflation, now 7.3%, will slip below 6% in the third quarter and finish the year at 4.5%. In March of last year inflation was 16.9%. It’s enough for Bank of America to warn that the country faces a ‘sharply rising’ risk of deflation.”
- “After President Vladimir Putin came to power in 2000, the poverty level fell until 2014, when oil prices collapsed. Now millions are sinking into poverty and wages are rising minimally.”
- “Savings rose to 14.1% of disposable income last year, up from 5.4% in 2008, according to the Federal State Statistics Service.”
- “Poor demographics add another wrinkle. The working-age population has shrunk by 5 million since its peak in 2006 and will continue to contract, cutting Russia’s potential economic growth to near zero in 2016-2017, according to BofA economists.”
Back to the U.S., Sam Fleming and Shawn Donnan point out in the Financial Times that the middle class in most US cities have taken a financial hit so far this century.
- “The research on urban centers that are home to three-quarters of the US population shows that median household incomes, adjusted for the cost of living in the area, grew in just 39 out of 229 metro areas between 1999 and 2014.”

Graphics

FT – The biggest problem with China’s latest credit boom, charted 5/4

FT – China companies borrow to repay debts in latest credit binge – James Kynge 5/9

Economist – Shadow banks: Dark and stormy

FT – EM millennials out-earn their elders 5/11

FT – Air pollution hits ‘catastrophic’ levels 5/11

Featured

*Note: bold emphasis is mine, italic sections are from the articles.

The coming debt bust: It is a question of when, not if, real trouble will hit in China. Economist. 7 May 2016.

“The country’s debt has increased just as quickly over the past two years as in the two years after the 2008 crunch. It’s debt-to-GDP ratio has soared from 150% to nearly 260% over a decade, the kind of surge that is usually followed by a financial bust or an abrupt slowdown.”

“China will not be an exception to that rule. Problem loans have doubled in two years and, officially, are already 5.5% of banks’ total lending. The reality is grimmer. Roughly two-fifths of new debt is swallowed by interest on existing loans; in 2014, 16% of the 1,000 biggest Chinese firms owed more in interest than they earned before tax. China requires more and more credit to generate less and less growth: it now takes nearly four yuan of new borrowing to generate one yuan of additional GDP, up from just over one yuan of credit before the financial crisis.”

“It is true that China has been fastidious in capping its external liabilities (it is a net creditor)… But the damage from a big Chinese credit blow-up would still be immense. China is the world’s second-biggest economy; its banking sector is the biggest, with assets equivalent to 40% of global GDP.“

“Optimists have drawn comfort from two ideas. First, over three-plus decades of reform, China’s officials have consistently shown that once they have identified problems, they had the will and skill to fix them. Second, control of the financial system – the state owns the major banks and most of the biggest debtors – gave them time to clean things up.”

“Both these sources of comfort are fading away. This is a government not so much guiding events as struggling to keep up with them. In the past year alone, China has spent nearly $200 billion to prop up the stock market; $65 billion of bank loans have gone bad; financial frauds have cost investors at least $20 billion; and $600 billion of capital has left the country. To help pump up growth, officials have inflated a property bubble. Debt is still expanding twice as fast as the economy.”

Further, “despite repeated efforts to restrain them, loosely regulated forms of lending are growing quickly: such “shadow assets” have increased by more than 30% annually over the past three years.”

The risks are first “higher-than-expected losses for the banks. Hungry for profits in a slowing economy, plenty of Chinese banks have mis-categorized risky loans as investments to dodge scrutiny and lessen capital requirements. These shadow loans were worth roughly 16% of standard loans in mid-2015, up from just 4% in 2012. The second risk is liquidity. The banks have become ever more reliant on ‘wealth management products,’ whereby they pay higher rates for what are, in effect, short-term deposits and put them into longer-term assets. For years China restricted bank loans to less than 75% of their deposit base, ensuring that they had plenty of cash in reserve. Now the real level is nearing 100%, a threshold where a sudden shortage in funding – the classic precursor to a banking crises – is well within the realm of possibility. Midsized banks have been the most active in expanding; they are the place to look for sudden trouble.”

“…it is too late for China to avoid pain. The task now is to avert something far worse.”

Other Interesting Articles

Bloomberg Businessweek

The Bank of Japan Buys Blue Chips

The Economist

Bloomberg – Manhattan’s Latest Tower Heats Up Hudson Yards Race for Tenants 5/9

FT – MetLife takes axe to hedge fund portfolio 5/5

FT – Alarm bells ring over negative interest rates 5/5

FT – Buffett and Bogle unite against hedge funds 5/7

FT – The real cost of big tech’s accounting games 5/8

FT – PwC to deploy drone army 5/8

FT – Alarm grows as investors get bulk of listed groups’ profits 5/9

FT – China capital outflows persist despite FX reserves rebound 5/9

FT – Rosneft head: Opec no longer united organization 5/10

FT – China insurance regulator sends inspectors to Anbang 5/11

FT – Linn Energy files for bankruptcy protection 5/11

FT – Macy’s joins American retail descent into the doldrums 5/11

FT – Grantham on the paradigm shift that never was 5/11

FT – Abu Dhabi raises stakes in 1MDB dispute with $1.2bn demand 5/11

WSJ – Stuck at Zero: The Long-Term Challenge for Investors 5/6

WSJ – Opportunity to Squeeze More From China’s Biggest Mall Developer 5/9

WSJ – What a China U-Turn Would Mean for Global Growth 5/10

WSJ – Luxury Condo Boom Is Ending in Manhattan 5/10

WSJ – Mall Landlords Go for Novelty in China 5/10

WSJ – Malaysian Leader Najib’s Stepson Allegedly Funded U.S. Property Deals With 1MDB Money 5/12

April 15, 2016April 15, 2016

April 8 – April 14, 2016

We burn cash for you – China tech. Mom & Pop investors in China are getting hosed. Water Wars in India.

The feedback has been positive for the new format, so it is here to stay. Lots of good reads this week. Enjoy.

Headlines

NYT – Rural Water, Not City Smog, May Be China’s Pollution Nightmare 4/11. Basically the water is worse than you think.
FT – Car gadgets expected to crunch insurers 4/10. “A wave of gadgets is set to wipe $20bn off car insurance prices globally over the next five years.”
FT – Five stars and falling stars 4/7. ‘China, like Japan, has become a victim of its own success: its economy has matured so fast that it has outgrown its financial structures’

Briefs

Alfred Liu and Molly Wei of Bloomberg called attention to one of the more interesting ways people have been getting money out of China through insurance products, the catch is you have to be prepared to swipe your credit card LOTS of times.

“Hong Kong insurance agent Raymond Ng sold HK$28 million ($3.6 million) in insurance policies to a mainland Chinese client in March. It took more than 800 credit card swipes to complete the transaction.“
“Making multiple swipes can defeat a cap of about $5,000 per transaction set by Chinese authorities in February.”
“Chinese customers are accelerating the pace of moving assets outside China, especially through insurance products.” – Ng
“Mainland Chinese are coming to Hong Kong to also buy life insurance policies with an investment component that can be cashed out in a few years. The money can then be invested in property or other assets, raising fewer questions about how it got out of the mainland. Large portions of the premiums can be paid upfront. Sales of insurance policies to mainland visitors jumped 30% last year, according to Hong Kong’s insurance commission.”

John Gittelsohn of Bloomberg covered Calstrs intention to shift more of its real estate focus to Europe.
- “The $180 billion California State Teachers’ Retirement System is buying more equities and real estate in Europe while selling U.S. properties, which are “priced to perfection,” according to the fund’s chief investments officer.
- “Europe looks pretty reasonable and inexpensive compared to the U.S.A.”
What happens when a currency position moves against you…Neil Buckley of the Financial Times highlights a precarious development in Poland where about half a million people have home mortgages denominated in Swiss francs.
- Poland’s newly empowered (came to power 7 months ago) political party ‘Law and Justice,’ is looking to convert $42bn of mortgages from Swiss francs to Polish zlotys. About half a million Poles had taken out mortgages in Swiss francs pre-crisis “to take advantage of lower Swiss interest rates. But after the Swiss central bank scrapped its currency cap in January 2015, many found themselves struggling to meet higher repayment costs.”
- Thing is, Law and Justice is proposing a measure that would force Polish banks to take on the loans and convert the currencies at historical exchange rates and bear the resulting losses, approximately €10.3bn – which Marek Belka, the governor of Poland’s central bank, called “evil” and a “recipe for a banking crisis.”
As highlighted by Steve Johnson of the Financial Times, China’s robot army is set to surge.
- According to analysis by Citi and the Oxford Martin School, “more than 75% of jobs in China are at a ‘high risk’ of computerization.”
- “The number of robots per 1,000 employees in China, as of 2013, was just 30% of the level of North America, 11% of the German figure, 9% of Japan’s tally and 7% of that in South Korea.”
- Raul Chadha, chief investment officer of Mirae (an Asia-focused investment firm with $75bn of assets), projects that robots will replace around 3.5m Chinese workers over the next five years as companies seek to improve their productivity in light of falling demand.
On-shore corporate bond defaults by state-owned groups in China are starting to pop up and people are rightfully concerned as Gabriel Wildau points out in the Financial Times.
- “Since the start of April, two SOEs have missed scheduled bond payments, while a third suspended trading of its notes as it warned of difficulty in making a payment due next month.”
- “For years bond defaults were unheard of in China’s onshore corporate bond market, with the government reliably stepping in to bail out troubled issuers. The first-ever onshore corporate bond default occurred in March 2014 when privately-owned Chaori Solar missed an interest payment.”
- “The first SOE default, by power equipment manufacturer Baoding Tianwei, came last April.“
- “The defaults are also creating fundraising difficulties for other would-be borrowers. In the first 12 days of April, at least 18 bond issues worth a combined Rmb17.8bn ($2.8bn) have been cancelled, according to a tally of public filings by China Business News. That follows 62 cancellations worth Rmb44.8bn in March. In total, 12 publicly issued bonds have defaulted since 2014, according to Haitong Securities.”
- “Many economists say SOE defaults are healthy for the long-term development of China’s debt market because they reduce moral hazard caused by the widespread assumption of a limitless government backstop for the bond market.”
- “Yet bailouts have not disappeared. On Tuesday, Shanxi Huayu said it would pay out on its overdue bonds this week after receiving a capital injection from its parent company. Central government-owned China National Erzhong Group received a bailout last year, days of warning of imminent default.”

Special Reports

FT – Russia: Putin’s balance sheet 4/7
- “In the grip of its longest recession in 20 years…many fear a return of an era they had hoped to have left behind: the decade of recession, economic shocks and poverty that followed the collapse of the Soviet Union in 1991.”
NYT – Climate-Related Death of Coral Around World Alarms Scientists 4/9

Graphics

Washington Post – “What the iPhone has done to cameras is completely insane” – 4/7

Source: CIPA/Photographylife.com

FT – China’s robot army set to surge 4/8

Featured

*Note: bold emphasis is mine, italic sections are from the articles.

China tech: Renminbi to burn. Charles Clover. Financial Times. 10 Apr. 2016.

“Burning cash has become alarmingly fashionable among Chinese internet companies, many of whom have taken to paying customers massive subsidies to use their services in hopes that their competitors go out of business before they run out of money.”

A recent ad from Emao.com, an online platform for car dealerships: “We burn cash from our investors to win the hearts of car shoppers.”

According to Cheng Wei the chairman of Didi Kuaidi, the China ride-sharing app, “the company spent $4bn last year in what he called ‘market fostering.’“ Uber also disclosed it was losing more than $1bn a year in China.

“‘Burning cash’ may not sound like a viable business model, but these young companies argue that paying customers to use their services is necessary to build their brands and achieve the scale needed to compete.”

“‘A lot of these companies will be forgotten when the money runs out,’ said Ma Jihua, founder of Datareal consulting, who estimates that as much as Rmb50bn a year is being poured into subsidies aimed at connecting Chinese consumers via their smartphones to taxis, massages and car washes.”

“But he concedes that companies have little choice. ‘In this market, if you don’t burn cash you won’t get market share which means you won’t get funding, consequently meaning you won’t stand a chance against competitors that do burn.’“

Damned if you do, damned if you don’t. Also reminds me of the phrase ‘a fool with money is one hell of a party.’

“The potential benefits to the market leaders help explain why they are so willing to spend: according to HSBC, China’s online-to-offline (O₂O) sector is a Rmb10tn market that is only 4% penetrated, and grew 80% year-on-year in the first half of 2015. HSBC estimates that in five years the “profit pie” in the industry would be worth Rmb26bn.”

“Start-ups are busy raising funds from investors at ever more dizzying valuations, only to plough them back into subsidies. Recent funding rounds have valued Didi Kuaidi at $20bn, up from $15bn last July. Uber china was valued at $7bn in a January funding round, while the merger of Meituan and Dianping, the two largest food delivery and group discount sites, was valued at $15bn-$17bn in November.”

However, as Ken Xu of Gobi Capital, a VC firm in Shanghai, points out “the user has no loyalty to anybody in these sectors; they only go for the apps that have the subsidies…”

“A driver for both Uber and Didi, who gave his name only as Mr. Guo, says both companies pay subsidies that often amount to two to three times the cost of the ride.”

“A lot of these companies have one thing in common – their perceptions of the odds of success are higher than they actually are.” – Brian Viard, economist at Cheung Kong Graduate School of Business in Beijing

China’s New Security Challenge: Angry Mom-and-Pop Investors. Chuin-Wei Yap. Wall Street Journal. 12 Apr. 2016.

“Small investor, angry over lost savings, are emerging as a new security threat to Chinese authorities, who are watching warily as investors around the country hit the streets in protest and picket government offices to demand their money back.”

“A common thread: Protestors are convinced government officials and the ruling Communist Party encouraged their investment of money and labor in ways that helped build modern China, and now they feel betrayed.”

“Since the People’s Republic of China was established in 1949, the Communist Party has always been something that the people viewed as trustworthy. Who can you trust, if you can’t trust the government?” – retired army Lt. Col. Guo Bojin, 72, who has claims to have lost approx. $120,000 to Henan Tengfei Investment Wealth Management, which collapsed in 2014.

For a sense of scale “the outstanding balance in wealth-management products was 18.4 trillion yuan ($2.8 trillion) at the end of the first half of 2015, according to Moody’s Investor Service – about the size of the U.S. money-market-fund industry.”

“The government hasn’t provided a count of the losses to investors. A Wall Street Journal tally of cases reported over the past year shows at least $24.3 billion owed to 1.6 million investors in wealth-management products, about $15,000 each on average.“

“Many small investors the Journal interviewed say they hadn’t understood the nature of their investments. They considered it a government stamp of approval that state media ran advertisements by Tengfei and other such companies, and that government officials attended some of the companies’ public gatherings.”

It is interesting to see how smartphones and social media has changed the ability of people to organize; however, police forces are infiltrating the instant-messaging groups and are showing up in mass to prevent gatherings.

“Authorities have also sought to forestall protests, say investors, who contend they have been followed and threatened by police, and sometimes beaten and detained. Police and public-security officials have told some journalists not to report on the collapsed lenders.”

India: Water Wars Victor Mallet. Financial Times. 13 Apr. 2016.

“Ten of India’s 29 states from Uttar Pradesh in the north to Karnataka in the south have declared droughts this year; dams, canals and sacred rivers in some places have run dry; and groundwater in parts of India is being pumped out at an alarming rate that has sharply lowered the water table.”

“Neither the political class nor the intelligentsia have understood that a water crisis is literally staring us in the face.” – Shashi Shekhar, secretary at the Indian water ministry

“He and other experts warn that conflicts – not just between nations but also between states inside India – are already brewing because of competition over scarce river water.”

“‘It’s a crisis now and if we don’t arrest it, then 10 years down the line we’ll have water wars,’ says a senior official in Delhi. ‘Punjab and Haryana will be in flames in no time.’ Indeed, activists in Haryana recently sabotaged a canal supplying water to Delhi. ‘We are having water wars in India already,’ says Brahma Chellaney, author of books on the fight over water.”

“According to Arunabha Ghosh, chief executive of the Council on Energy, Environment & Water, a research group, the average Indian had access to 5,200 cubic meters a year of water in 1951, shortly after independence when the population was 350m. By 2010, that had fallen to 1,600 cu m, a level regarded as ‘water-stressed’ by international organizations. Today it is at about 1,400 cu m and analysts say it is likely to fall below the 1,000 cu m ‘water scarcity’ limit in the next two to three decades.”

“As in neighboring Pakistan, the problem is not an absolute shortage of water. In fact rainfall in India is high, albeit seasonal, and northern rivers are also filled with melted snow from the Himalayas. The real causes of India’s dearth of water are the country’s rapid population growth; its inefficient transport and use of the stored surface water in some 5,000 large dams; the planting of water-intensive crops such as rice and sugar cane in dry areas by politically powerful landowners; and a failure to control demand for water because of free electricity and subsidized diesel provided to hundreds of millions of farmers for their pumps.”

“Landowners can pump as much as they want from the ground.”

“A recent European Commission study on Indian water legislation noted that the number of boreholes or tube wells had risen from a few tens of thousands in the 1960s to more than 20m today.“

“India, the report said, pumps 230bn cu m of groundwater, more than any other country. More than 60% of India’s irrigated agriculture, and 85% of its drinking water, depend on this groundwater.”

Other Interesting Articles

Bloomberg Businessweek

The Economist