The Breakdown - China's Stock Market Struggles

Episode Date: January 24, 2024

NLW looks at the worsening stock market situation in China, which has caused the Chinese government to explore major stimulus. Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribe to the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Wednesday, January 24th, and today we are talking about the macro, specifically some crazy things going on in China. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod.

Hello friends. Today we are doing one of my absolute favorite type of shows, which is where we get to dive into bigger macro topics. And the focus today is China. Now, some of you may have been paying attention to this, but for those of you who haven't, there has been some serious weakness spreading throughout the Chinese financial economy. And because of that, authorities are starting to consider forceful steps to right the ship. So to get a sense of what's been going on, the CSI 300, which is a cap-weighted average of the 300

largest Chinese stocks, has been in basically down-only mode for most of the past year, and this week reached a five-year low. This sell-off has become particularly bad over recent months, with the 12% drop since the beginning of October, and a 5% decline so far this month. In total, $6 trillion has been wiped out from the market value of Chinese and Hong Kong stocks since their peak back in 2021. Now, policymakers are seeking then to mobilize 278 billion as part of a stabilization fund to buy onshore shares. These funds will be sourced mainly from offshore accounts held by Chinese state-owned enterprises. Forty-two billion in onshore funds are also earmarked for the stabilization effort. Bloomberg confirmed these numbers through an anonymous source close to

the subject. Now, rumors of the massive intervention pushed Chinese stocks trading in Hong Kong higher on Monday. The Hangsang index jumped by 3.8%, which is its largest single-day rise since November, climbing hard off of 19-year lows. The CSI-300 saw a more moderate 1% gain, which at this point has already fully retracted. Both onshore and offshore yuan briefly reversed losses from last week before fully retracing on Tuesday, with exchange rates remaining stubbornly above 7 yuan per U.S. dollar. Now, this intervention in the Chinese stock markets comes on the back of multiple currency and asset interventions over the past year. Chinese policymakers have already had their work cut out for them, holding together a crumbling real estate market, as well as dealing with multiple

large financial firms hitting the wall. Now, past interventions in the Chinese stock market, most notably in 2015, were ineffective at best and counterproductive at worst. So far during this downturn, policymakers have been reluctant to launch into full-blown stimulus. Last year was punctuated by comments from top officials, which warned against the moral hazards of too much intervention, particularly as it affects workforce motivation. However, it appears that now the risks of investor's sentiment plummeting further have outweighed the risks of stepping in. A state council meeting on Monday was chaired by Premier Lee Huang and included top cabinet ministers. According to official sources, the policymakers received a briefing on capital market operations and considerations for related work.

While this doesn't provide many additional details simply placing market intervention considerations on an official agenda, says a lot about the state of play in China. The South China Morning Post reported that, quote, the meeting was the clearest sign of the government's attempt at putting a floor on plunging stock markets in the mainland and Hong Kong. Li Wei Ching, a fund manager at J.H. Investment Management said, this is a massive boost to confidence. The State Council comments also affirm that the top policymakers are attaching high importance

on this matter, but whether the gains can sustain after the buying or if people will sell into the rally is hard to tell right now. While these comments were optimistic, time will tell if Chinese officials can actually do enough to arrest the dramatic plunge in domestic. enterprise value. Gary Ng, a senior economist said, it is too early to cheer for any solid improvement in sentiment, especially with the ongoing concern about policy risks and a less appealing growth story. The market is clearly not ruled out the possibility of a dead cap bounce until the stimulus is on the table. Regarding the impact of Chinese intervention on crypto markets,

David Brickle of Front Financial said, China is incentivized to keep a lid on BTC to maintain a relative veil of currency stability and discourage capital flight. Past episodes when the yuan has come under pressure have coincided with Bitcoin underperformance. Greta Yuan, head of research at VDX, a Hong Kong-based exchange said, the rebound of the Chinese economy will have profound implications for the global economy, and any stimulus or accommodative policy will be an encouraging sign to investors. The crypto market will also perceive such policies as risk on and therefore be more willing to innovate and activate in market expansion. Now, as we've heard, the announcement of the interventions could only manage a brief rebound in Chinese stocks on Tuesday. There is a growing fear that this will be yet another

patchwork fix that fails to make contact with deep systemic issues in the Chinese economy. Since August, Chinese officials have already made a range of regulatory changes designed to support the stock market. These have ranged from cutting stamp duty taxes right on through to restrictions on short selling. None of these policies have made a long-lasting impact. After a three-year decline which rivals losses in U.S. markets during the dot-com bust, the concerns are clearly that cracks in financial markets could lead to social unrest. George Magnus, a research associate at Oxford University's China Center said, Sheingping's people are almost certainly telling him that the route in the equity market is a stability risk. Investors aren't just abandoning Chinese stocks for normal reasons

of valuation, but because the whole economic policy and political environment has atrophied. Getting confidence back probably requires major changes in both. Michelle Lam, a China economist at Society, Heneraal, noted that stock market intervention could mean nothing if broader problems are not dealt with. She said, the 2015 experience shows that even when the government steps up buying, the rally is not necessarily sustainable unless we have a bigger stimulus package to address the economic issues. Vaser and Ling, managing director at Union Banker-Pravei, had a similar take stating, ultimately, even if the money is enough to support the market, it doesn't resolve any other issue that China is facing, such as restrictions from the U.S., a weak economy and unemployment.

Brian Takango, an analyst at Sanseri Research, tweeted on January 22nd, I've rarely seen a day like today when every single constituent on the Hangsan Tech Index is in the red without the rest of the world markets crumbling. It was a day characterized by a sell-it-all-sell-everything feeling, which is typical of the kind of exhaustion and capitulation, along with a hefty dose of panic. There's no one reason. Pessimism towards Chinese tech has been building for years, blowing up at times only to build back up, and then you have a trigger for another blow-up like we had today. The market quickly looked past China's 5.2% GDP growth. Before that, it looked past China's better than expected trade figures, and before that, the market quickly discounted Kai-chin PMI

readings for both services and manufacturing. It's not that GDP, trade, or PMI ratings are not important or that people think they're fake. It's simply that there are other things investors are considering that are more important than economic growth at this point, including direction of U.S.-China relations, a potential Trump-relection, direction of China regulation on tech, the looming possibility of deflation, the impact the Middle Eastern War is having on seaborne trade, and let's not fail to address the elephant in the room, the lack of meaningful, impactful, and downright jaw-dropping stimulus from Beijing to get some confidence back in the markets and consumers.

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Cryptocurrency services are provided to U.S. and U.S. territory customers by Payward Ventures Inc. PVI, DBA, CRACN. Now, the Wall Street Journal editorial board essentially called the stock market collapse a problem of Xi's own design. They noted that years of targeted crackdowns against specific industries have left investors unsure whether a hot company would be allowed to grow. The op-ed stated, These developments would put a damper on markets anywhere, but Beijing's approach to China's financial system makes matters worse. The Communist Party allowed stock markets to open but not function as they do in the West. Endemic party interference in corporate management up and down the economy

prevents the equity market from operating as a true market for corporate control. Now, this crackdown against industries which challenged the government's grip on power was most pronounced in the tech sector. The mysterious disappearance of Alibaba founder Jack Ma in 2020 was emblematic of what appeared to be a purge of tech elites. It occurred as Alibaba's financial subsidiary Ant Group was preparing to IPO. Now, Ma did resurface in China later showing up at a school he founded, but the message had clearly been sent. Now, as a sign of just how much Chinese markets have underperformed mainstream expectations. The head of a top macro hedge fund reported dismal performance on Tuesday. Lee Bay, the founder of Banshia investment management, said her flagship macro fund

had recorded a 25% maximum drawdown from its peak in the middle of last year. This was the worst performance in the fund's history, but still outperformed the Chinese stock market. Lee admitted that the strength of the government's policy support had failed to live up to her expectations, stating, I made the mistake of assuming a quick victory. Lee had been optimistic about a recovery in the real estate market towards the end of last year as a slew of measures to address falling prices kicked in. However, she said that both fiscal and monetary support have slowed since then, adding that, quote, real estate policies both in terms of actual implementation intensity and execution speed, were significantly lower than expected. Now, whenever China's

financial economy hits the skids, one of the first concerns is capital flight. We've seen capital flee China through a range of avenues over the past decade, often with accompanying crackdowns. This time, around some alarming price action in offshore index funds, could be signaling a desperate shift away from exposure to Chinese stocks. On Tuesday, the MCSI USA-50 ETF spiked by 10% and was halted for the second day in a row. This Chinese fund tracks the top 50 U.S. stocks and traded at a 33% premium to the underlying assets. Similar price action was seen in the Nomoroniquet-225 ETF, which tracks Japanese stocks. That fund recorded a daily gain of 6% and recorded a 26% premium. security brokers in China have now issued warnings on these high premium foreign ETFs,

suggesting that trading should be avoided for 10 days. China AMC has halted purchases of NASDAQ and S&P 500 index funds as of Wednesday local time. The fund manager said the decision was aimed at protecting the interest of shareholders and ensuring the funds can operate properly. Now, while basically any foreign stock market looks better than the cratering Hong Kong and Chinese indexes, there are some genuine signs that other markets are rising to take their place. As of Monday's close, the Indian stock market overtook Hong Kong to become the fourth largest equity market in the world. The combined market cap of Indian stocks reached 4.33 trillion, becoming larger than the 4.29 trillion Hong Kong market for the first time ever.

The rise of Indian stocks means there is now an alternative for investors seeking high growth in large foreign markets. A recent Goldman Sachs report stated, there is a clear consensus that India is the best long-term investment opportunity. Evan Metcalfe, CEO at GlobalXETF, said, we see India as the best structural growth story across not just emerging markets but worldwide. While China's growth has stalled and is mired in uncertainty, India has a generational opportunity to emerge as the growth engine of emerging markets. Demographics are a key advantage coupled with a surge in educated youth

and a progressive government pursuing key structural reforms. Now, of course, the $100 trillion elephant in the room whenever we discuss the Chinese economy is always the real estate market. Last year saw a 17% decrease in property prices and distress throughout the homebuilding industry. The Hengsen Mainland Properties Index, which tracks the stock of Chinese property developers, was cut in half last year. According to S&P global ratings, Chinese developers have defaulted on $125 billion in overseas bonds between 2020 and 2020-23. The government has attempted to revive the industry with a range of tax cuts and supportive policies, but these measures haven't managed to overcome

the collapse in sentiment and restriction of credit. analysts expect the downturn in Chinese real estate to continue. Numura said in a recent note, there has been no sign that the sector's fundamentals have bottomed out. Well, Tommy Shi of OCBC Bank said, despite the relaxation of measures, housing transactions remain at low levels. Now, this tepid level of transactions has caused developers to take on a range of desperate and downright bizarre marketing strategies to move unsold stock. One property company, for example, ran an advertisement last year featuring the slogan, Buy a house, get a wife for free. The slogan was a play on words. It used the same Chinese characters for the phrase, buy a house and give it to your wife, but presented in the sentence

and structure commonly used to offer freebies alongside real estate purchases. The company was fined $4,000 for the ad. Another firm promised homebuyers a 10-gram gold bar. Indeed, even onshore analysts are predicting the downturn to continue. Earlier this month, Shang Chang, the former head of statistics department at the People's Bank of China, predicted another two years of slow sales. He suggested that new home transactions would fall by more than 5% in both 2024 and 2025. Now, at its peak, the real estate sector accounted for one quarter of Chinese GDP. Much like stock market intervention, the Chinese government has so far only committed to piecemeal policy tweaks over the past year, rather than deploying the big stimulus packages more commonly used in the 2010s. Economists are beginning to draw the

comparison to Japan in the late 1990s, a nation which overextended in financializing their economy and ended up with an unsolvable economic problem for decades. Others think that aggressive moves from the PBOC could make the issues less severe. Li Yan Lu, the head of Asia-Pacific economic analysis at City thinks the central bank still has policy room and could have a significant impact. A big part of the problem, though, is that no one really knows how deep the hole is. Chinese local governments rely on land sales as their major source of income. Estimates vary on the amount of hidden debt they now carry, but by all accounts, the number is massive between $400 and $500 billion. The sheer scope of the issues in real estate could be an

explanation of why Chinese authorities are hesitant to engage in full-scale stimulus. Analysts are already warning that the $278 billion stock market bailout might be too small to have a meaningful effect. The amount of money it would take to bail out Chinese real estate would likely be an order of magnitude larger and probably wouldn't do anything to address growing social issues. So some pretty fascinating stuff, certainly a situation to keep a close eye on. Hopefully this was an interesting departure from our normal content, something useful in your lineup. I want to say one more big thank you to today's sponsor, Krakken. Go to Krakken.com and see what crypto can be. And until next time, be safe and take care of each other. Peace.