One week / one topic: Chinese whispers

What happened?

Over the last 10 days, Chinese authorities have made several markets-friendly announcements including:

• Policy and mortgage interest rate cuts

• Liquidity support for the stock market

• Additional assistance for the property sector

Following a long underperformance punctuated by the occasional rally, Chinese equities started going up after the announcements – yet there was still palpable scepticism among investors in terms of ‘China has a demand problem, so we want to see fiscal support’.

Enter the Politburo.

On September 26th, China’s top leaders pledged additional fiscal spending of 2trn yuan ($284bn) to stimulate consumption and help local governments tackle debt problems.

Markets quickly interpreted this as a policy bazooka with Chinese equities surging ~20% in a week, also because both timing and wording of the announcements were intentionally unusual as to signal clear resolve.

(While past performance is not a guide to future performance, Chinese equities however still remain ~30% lower vs the 2021 highs while global stocks have risen 40% since)

To many observers, China had to act as it is under time pressure (see below) to fight off nightmares of a deflationary, Japan-style balance sheet recession.

Taking stock of all this, should we then update our investment views? And if so, how?

Our observations

• Fundamentals: As per the below, China was – and perhaps still is – in need to do something big to stimulate economic growth. While recent measures are certainly sizable, it remains to be seen whether they will be enough – or perhaps there will be more to follow?

• Price action: Even accounting for a good amount of short covering likely at play, judging from the immediate price reaction, markets are taking this a potential Draghi moment.

• Investor beliefs: After years of utter disillusionment (China is uninvestable!), market participants were reminded that beliefs can be challenged very quickly in this space. Omar Little comes to mind: “You come at the king, you best not miss.”

So what?

Over the summer, investors were grappling with macro worries about slowing US employment, contractionary manufacturing PMIs, CRE woes and more.

While we think such concerns are reasonable – and so we keep holding 30yr US Treasuries as portfolio insurance – two very meaningful developments came through in short order:

1. Despite stocks near all-time high and unemployment at 4.2%, the Fed cut rates by 50 bps (which is unprecedented)

2. China deployed the monetary+fiscal policy bazooka, and implicitly signalled that this was the pain point for the policy put

If the Fed’s actions can be interpreted as a very loud ‘we’ve got your back’ message to investors, then China is saying that ‘enough is enough’…

Importantly, both actors are boosting excess liquidity - which was already quite robust - pointing to a reassuring historical relationship with risk-assets performance:

While we have already marginally increased overall equity exposure in the past week, we are also analysing other more targeted opportunities with the potential to do more.

In the meantime, we keep reminding ourselves that there are powerful forces at play on both sides of the equation -and that therefore one should try to not get carried away too much…