Geopolitical Developments: Hopes For China’s Economic Collapse Reflect The Political Anomie Underlying The Bear Market
As China deals with multiple crises it’s understandable that many secretly or overly pray for the Chinese Communist Party to finally get their comeuppance. The consequences for peace would be significant but such hopes really reflect the dire state of western politics rather than intelligent analysis. The ongoing bear market is more a result of underconfidence in the Fed, ECB, Biden and all European political leaders than the stupidity and arrogance of the CCP. And until valuations comes down significantly the bear market will persist since western political change is all but impossible. The volatility risk premium points to a market fall over the next few days but my technical reading of key stocks in the S&P 500 is neutral. Yesterday's cross-asset action brought several positive factors for US stocks. The US yield curve is rising and in the current context that is bullish. Inflation expectations are stabilizing based on measures of Treasuries and TIPS. Expect the S&P 500 to rise modestly over the next few days before a steep drop to new lows as we enter August.
The latest crisis to hit China is the mortgage boycott that has spread across the nation. Sadly the CCP has a proven toolkit of censorship, sticks and carrots that always wane the intensity of protests, and this time looks no different. The average Chinese has foundational confidence in the CCP to pursue growth and order over the foreseeable future, since they have seen material progress consistently for two generations. The injustice, ecological toxicity and fear that accompany such progress is often too much for Chinese to bear, but because growth has been strong and geographically fairly dispersed, no national revolt or anything close to it has ensued from protests.
Fitch notes “ A rise in the number of Chinese homebuyers ceasing mortgage payments on properties where construction has been suspended for a prolonged period could weaken banks’ asset quality, says Fitch Ratings. Authorities are likely to step in to curb mortgage defaults from spreading more widely and to larger cities, but a failure of policy intervention to restore homebuyer confidence could test the banking system’s resilience and heighten liquidity pressure at developers. Household leverage stood at 62% of GDP and 112% of household disposable income at end-2021, which was modest by global standards. A recent rapid rise in debt may have stretched household balance sheets for certain segments of the population, but we do not believe a major deterioration in household debt serviceability was the driving factor in the mortgage boycott. The development more likely reflects prolonged and widespread distress in the property-development sector, which drove the suspension of construction at a number of pre-sold housing projects. Mortgage payments for pre-sold projects typically begin at the time of purchase, rather than when construction is completed. We do not believe the defaults will directly affect Fitch-rated Chinese banks, with most disclosing that affected mortgage loans amount to less than 0.01% of their outstanding residential mortgage loans. However, should defaults escalate, there could be broad and serious economic and social implications.”
I see little chance of the boycott broadening out, and much greater likelihood that next week’s earnings reports contain more surprises like that engulfing light-technology companies like Twitter and Snap. Since earnings estimates have stayed resilient the only way for valuations to come down is for the S&P to drop, likely to the 3500 region where it makes a bottom in August.
My current positions are a large but slightly smaller cash position, Goldman Sachs (GS), 3M (MMM), Pfizer (PFE), Starbucks (SBUX), Titan Machinery (TITN) and the levered ETFs UPRO and SPXU.