China GDP Data Sends Bulls Fleeing

The market hung on tenterhooks all last week, waiting for the Chinese Q1 GDP figure. As recently as Thursday, rumors swept the market that the number could be as high as 9%, well above the consensus figure of 8.4%, taking the Dow up a red hot 181 points. When the flash hit in the afternoon Beijing time confirming 8.1% the equity futures flipped into sell mode. By the time the crying was over on Wall Street, virtually all of the day’s previous gains had been wiped out.

There are a few lessons to learn here for the aspiring trader. Never believe rumors, especially when they are supposed to originate from governments on the other side of the world. They are almost never true. They often originate from someone trying to unload an unfavorable position. Whoever dumped their portfolio of US stocks Thursday afternoon at the close did exceedingly well.

The second is that all is not well with the global economy. I heard China experts speculating that this quarter might be the bottom of the Middle Kingdom’s slowdown. But they are China experts to the extent that the probably ate in a Chinese restaurant once and watched one Bruce Lee movie. So much of what you hear about China in this country is nothing more than guesswork and I never pay attention to it.

I have a somewhat different take. There is no sign whatsoever that China’s growth recession is ending. Sure, domestic loan growth this month rose from ¥700 billion to ¥1 trillion, but much of that increase is due to carry over demand from the lunar New Year holiday of the previous month.

The biggest problem is that China’s main export customers are in distress. Its biggest, Europe, is in a serious recession and we have no idea how long that will last. The weakness of the Euro certainly says longer. Japan is falling off a cliff. Demand from a weak, 2% a year growing US is recovering, but is a shadow of what it once was. You can see that is the rapidly improving American trade surplus, which dropped from an eye popping $51 billion to $46 billion last month.

Think of the Chinese economy as a battleship. It is not going to turn on a dime. To complicate matters, China is only at the opening stages of a serious real estate bust. You can count on low end housing starts to plunge from 15 million to 5 million this year as the air comes out of the real estate bubble. That why copper has been so dead this year.

Two small easings of reserve requirements since November are not going to halt this slowdown. In fact, I think that Q2 could be even slower than the last. This is a big reason what I am looking for a prolonged “RISK OFF” scenario over the summer.

Perhaps my old friend, Steven Roach, the former chairman of Morgan Stanley Asian and now in retirement as a Yale professor, put the best lipstick on this pig. The 8.1% report is down only 3.2% from the peak 11.3% growth rate. The 2008 crash saw the growth rate fall 8.2% from the top. We are a long way from that, thankfully.

There is a far more important message in the quarterly figure. This is not a temporary slowdown; it is a permanent one. There is never going to be a return to a continuous, white hot 11% GDP growth rate of the past. Recent years have seen the Middle Kingdom lose many of its competitive advantages.

Runaway wage inflation is rapidly eroding the country’s cost advantage. Oil over $100 a barrel is probably hurting China more than any other country. Remember, much of America’s infrastructure was built at $1 a barrel. This is why “onshoring” will become the new economic trend of the decade (click here for “Onshoring: The New Global Trend”).

But, as I never tire of pointing out in my meetings with the Chinese government, slowing the country down to a steady 8% rate is a good thing. This is a more sustainable and achievable rate that the country can live with. It reduces the volatility of the economy, not just for China, but for the world as a whole. Still, I often get back concerns about the country’s “bicycle” economy that has to move forward quickly or risk falling over. These are leaders well aware that their country has a history of retirement in front of a firing squad instead of at at country club.

The whole affair also shows how important foreign developments have become for US financial markets. Look at the news flow driving markets these days and it all about China and Europe, with 5 minutes left over to wonder about whether Ben Bernanke is going to bring us QE3. That’s why you have to pay attention to someone like me who has been playing the game for 40 years and has pipelines straight into the key foreign ministries.

I think there is going to be a great buy in China sometime this year. Right when traders are jumping out of windows, managers are rending their hair, Merrill Lynch puts out a call to sell everything, and the Dow is down 2,000 pints  you want to back up the truck and load up on Chinese stocks.

This excursion should include international names like Caterpillar (CAT), Freeport McMoRan (FCX), BHP Billiton (BHP), and Rio Tinto (RIO), as well as domestic ones like China Mobile (CHL), China Telecom (CHA), and Baidu (BIDU). These are the companies that will far outperform everyone else in any sustainable Chinese recovery. You will also want to pick up some ETF’s like (FXI) and (CAF). But that time is definitely not now.





China’s Bicycle Economy