Uncertainty over China is at a new high

Posted on August 19, 2015 1:10 pm by Greg

Thank you very much for registering on my new website ampGFXcapital.com.  This means that you will be on my email distribution list to be notified when my Flagship report “Amplifying Global FX” (more affectionately known as AmpGFX) is ready to be viewed on the website.

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As the article in Bloomberg about my new firm romanced, I hope to run my business out of Breckenridge, Colorado.  However, I am not there yet!  I am still in Singapore, working from my laptop on the kitchen bench.  My wife is already starting to get sick of me getting in the way and my kids are wondering if their dad has a real job.

I have been working feverishly in the last week or so on getting everything together to apply for a USA immigration visa, which requires a substantial business plan and significant investment in my business.  Everyone in my family is eager for me to get that application in so we can start planning our next big move.

We have made significant investment setting up an office in Breckenridge.  It will be within a family home that we have purchased.  My wife, Gabbi, and I travel to Breckenridge in the first week of September to settle on the house and see if everything is coming together on the office.  My parents are coming up to Singapore from Queanbeyan in NSW, Australia to spend time with their grandsons while we are away.

If all goes to plan we will be moving to Breckenridge in January, until then I expect to be following the markets from our kitchen bench in Singapore (where the Wi-Fi works best), before heading down to Australia for some weeks over Christmas.  Of course, if anyone in Singapore wants to offer me a desk and computer in their office for a few months, let me know.

In January I hope to be working from my home office in Breckenridge, operating on my own, which is not too different to how it has been for most of my working life as an FX strategist.  At banks, I did have access to my colleagues’ research which was always a help, but I am used to relying on my own analysis.  Let’s face it, the audience, you guys, want to hear opinions from people looking at the markets in their own way, not rehashed views of others or so-called “house views”.

However, I still have visions of grandeur, building up my business, opening a proper office, employing graduates and a team of strategists, and eventually branching out into capital management.  I know the odds of that may seem a bit like winning “American Idol” and making smash hit records, but I am ready to audition.

I am, by necessity, starting small, establishing an audience, building up my credibility.  I have no immediate plans to charge subscription fees, my sense is that I need to get the road (or snow) under my feet and prove I can provide solid and thought provoking analysis on my own before deciding on a strategy to make this business pay.

Call me old fashioned, but if I pretend to be able to provide you advice on trading FX, then I should be able to make money trading my own capital.  I want to profit from my own advice and hope this will be an additional source of income for my family.  As you may have noticed I have included performance results from a combination of actual and notional trading on my website.  I intend to keep this track record going with actual results from my own trading.

Some of you may worry that this will cloud my perspective and commentary.  It would be foolish to say it won’t be affected, but my view is that when you have your own money on the line, you work harder to consider all the angles and hone the focus, and this will serve to make my reports more insightful and sympathetic.

As it turns out, my notional trading in recent months has been hit and miss and it does feel like a lot of the easy money has been made in the developed currencies.  I have been notionally trading major and commodity currencies, and these have been rather mixed of late.

The action lately has been in emerging markets, and some strong and significant trends have played out creating some great potential for those trading in this space.  Asian currencies in particular have maintained steady down trends in recent months, given a solid kick along recently by the surprise CNY devaluation.  Even before this, there was broad weakness in the region since May with little respite for any currency and some of the most significant and persistent moves seen in some for a number of years.

MYR has come under the pump more than any other, plunging faster and more than it did in the 2013 taper tantrum, undermined by weak energy markets and corruption probes.  But recent moves in the region are much more than a reaction to US monetary policy expectations, currencies like TWD and KRW, once relative safe havens, have also fallen rapidly notwithstanding their massive current account surpluses that have swelled as oil prices have fallen.  Deteriorating confidence in the Chinese economy and its financial strains are also playing a big part in dragging down currencies in the region.

The Chinese economy has been slowing for some time, but the level of market concern over this has ebbed and flowed.  Many have thought it is a natural part of reaching a certain size and state of development, and not a big deal since China is growing off a bigger base.

Others have noted this is all part of a grand plan of the authorities to transition away from heavy industry and emphasis on fixed asset investment towards consumption and service industries.

And many have presumed the economy would soon stabilize or rebound because the authorities had plenty of scope to ease monetary and fiscal policy to cushion the slowdown as financial excesses are dealt with.

However, confidence in the Chinese economic outlook and the capacity of its authorities to control growth and financial conditions appears to be under more intense pressure in recent months.

The currency devaluation was surprise news, but the fact that it came after the weaker than expected PMI data for July, followed by a deeper than expected decline in export and import growth, added to market concern that the authorities are losing control. And this was followed in the same week by much weaker than expected industrial production and fixed asset investment, confirming that the narrative in the market of bottoming out in the Chinese economy in Q2 was yet again being turned on its head.

Of course the broad consensus is again that China will further ease monetary and fiscal policy to resurrect economic growth, but this is not yet helping stabilize Asian markets.  Not only are the region’s currencies under pressure, equities in the region have slid faster in recent weeks.

There is also the spectacle of Chinese loan growth surging to a new monthly record, way above expected in July, even as total social financing fell below bank lending.  Some of this may be seasonal and explained by special factors, but it appears to be all part of the Chinese government’s effort to pump liquidity into the banking system to prevent broader financial stresses from infecting the most creditworthy borrowers and spilling over to a serious credit crunch.  This is reminiscent of 2007 in the US when the Fed improvised with a number of term funding vehicles to avert the sub-prime crisis from crashing the financial system.  It worked and the US and global economy limped on well into 2008, the authorities putting out several fires along the way until deciding to let Lehman’s collapse.

China is putting out fires, but just as was the case in the US in 2007/08, this has not been sufficient to reinvigorate its economy. Chinese authorities may have more policy ammunition to douse fires that flare up from its excesses of the past decade, but it appears that sentiment is turning against them and control is slipping.

Patience appears thin and investors are not bottom fishing in the region.  I am not sure that China will be able to easily turn sentiment around this time.

The stock market debacle this year has certainly not helped.  When Chinese equities were surging from last year up to June this year, I was wondering if this would spill over into renewed confidence in the Asian region and even rejuvenate global risk appetite.  Everyone was warning that it was being driven by rampant speculation inside China, but still this could have driven foreign fund managers to be dragged in, especially with the pressure to include mainland equities in MSCI indices.  There was a brief period when Hong Kong and Taiwanese stocks started to get caught in the up-draft.  However, overall, it was telling that other equities in the region failed to follow the lead from China.

It is fascinating that the market almost ignored the 150% surge over the year to June, but then managed to throw itself into a minor panic on the 30% fall since June.  The Chinese authorities also managed to throw themselves into a panic over the fall, stepping in with a variety of market interventions to prop it up.  One wonders what they were trying to achieve letting the stock market surge so rapidly in the first place.  Most thought they were doing their best to jawbone its citizens into the equity market on the way up, so it seems they created a lot of unnecessary problems being complicit in a bubble.  Chinese authorities appear to have learned a lot of lessons from the mistakes and clean-ups in the US, but averting a dangerous equity bubble is not one of them.

Now it is in the situation of an equity market that appears shaky, underpinned by the expectation that the government will intervene if required.  Whereas other equity markets in the region ignored the boom, they are certainly not ignoring the correction.  Hong Kong equities, perhaps a better guide to the true value of Chinese mainland equities, have continued to slide to new lows for the year and equities across the region have slid, most to new lows for the year, certainly in USD-terms.

Overall the message is uncertainty over China is at a new high and it is proving to be a big weight on sentiment across Asian markets.

And what now of China’s currency?  The fall last week has probably had a bigger dampening impact on Chinese economic sentiment that the authorities anticipated.  The market is left dazed wondering why?  Why did they decide on this moment to stop propping it up when their modus operandi has been when global uncertainty rises, they jam the currency into a holding pattern as if to reassure the market that it can at least rely on CNY stability.  But this time it let it go few percent.

A few percent in anyone else's currency is a noticeable but not alarming move.  In China it matters because normal volatility is much lower.  Authorities can claim that some modest depreciation is fair cop; their country’s TWI has jumped more than any other over recent years and it is hurting exporters and the economy.

 Sure but if that is the game, then the currency might need to fall an awful lot further to regain lost competitiveness. Its move since last week is not even keeping up with the deeper falls in its near competitors in the region.  That would mean a massive change in policy and even hinting that this is about an over-valued TWI could see capital rush out of China and speculators pile into shorts.  This could be problematic for the authorities trying to underpin money and credit growth in China.  The benefits of weakening the CNY for Chinese exporters is minimal, and they may have created more problems than it is worth, generating more capital outflow and adding to the notion that they are grappling for answers to sustain economic and financial sector stability.  The outlook for CNY is thus skewed to the downside, although most likely they will revert to maintaining stability in the currency again in this time of greater uncertainty.

But this adds weight on other currencies in the region as investors now view the CNY and Chinese mainland equities as artificially propped up.

I don’t feel in swing with the major currency markets at this time.  I lost some notional money after the last US payrolls report.  I was long USD vs EUR, CAD and NZD into the number and thought I was looking sweet on the initial rally in the USD.  But when it turned lower and gave all its gains up by the end of the session that was my signal to get out of everything.  That kind of price action suggests the market is well geared up for the first Fed rate hike.  Maybe not in the Fed funds futures, but in the major currencies yes.

 I have been paying most attention to getting my business set up since then but have ventured into a long USD/CAD position again that is currently slightly out of the money.  This was based perhaps a little too obviously on falling oil prices, and I feel I need to delve more seriously into the markets again to solidify my view.  Perhaps a topic for another blog post soon.

For the time being it is time to clear off the kitchen bench and get ready for the family onslaught.

Thanks again for registering.  I hope to start normal operations in mid-October.

In the meantime pass the word around that you should register on my website ampGFXcapital.com to get on my distribution list.