Year: 2023

While U.S. equities are melting up, China is showing increasing risks of a melt down.

Chinese Exports Fall at Steepest Pace Since February 2020 Slide in outbound shipments reflects fraying trade ties with the Western world, even as exports to Russia boom

(…) Overseas shipments from China slumped 14.5% in July from a year earlier, the steepest year-over-year decline since February 2020, in the earliest days of the Covid-19 pandemic, data released Tuesday by China’s General Administration of Customs showed.

Compared with those of a year earlier, China’s exports to the U.S. and European Union plunged by more than 20% each last month. There was a lone bright spot: Chinese shipments to Russia soared in July, calculations from the customs data show. (…)

July’s 14.5% drop in Chinese outbound goods shipments was sharper than the 12.4% year-over-year decline in June and outpaced the 12% decline expected by economists polled by The Wall Street Journal.

Chinese goods shipments to the U.S. fell 23% in July compared with a year earlier. Shipments to the European Union and to the Association of Southeast Asian Nations, a group of 10 countries that includes Singapore and Indonesia, each dropped by about 21%. (…)

Chinese shipments to Russia, a country under Western sanctions over its invasion of Ukraine, rose 52% in July from a year earlier, helped by sales of high-value goods including automobiles. For the first seven months of this year, Chinese exports to Russia soared 73% from a year earlier, even as China’s total exports have fallen 5%, data from Chinese customs show. (…)

Chinese imports also fell by more than expected in July, falling 12.4% compared with last year, versus June’s 6.8% decline, marking the worst month of year-over-year declines since January and well below the 5% drop expected by surveyed economists.

The fall in Chinese imports, which include intermediate goods that Chinese companies turn into finished products, reflects the broader weakness in the entire chain of global manufacturing, analysts say. It also shows just how tepid domestic consumption remains, even with China’s economy freed from Covid-related curbs for more than six months.

Economists say the latest raft of soft economic data will likely prompt Beijing to consider more stimulus measures.

Chinese officials have already ordered local governments to more quickly issue bonds to fund infrastructure spending, a move that could boost China’s appetite for commodities and help Chinese imports regain ground in the coming months, say economists from Capital Economics.

• China Slips Into Deflation in Warning Sign for Global Economy China entered deflationary territory for the first time in two years, pressuring Beijing to avoid a deepening economic malaise.

(…) Prices charged at the factory gate, which have been contracting on a year-over-year basis since last October, fell 4.4% in July from a year earlier, narrowing from June’s 5.4% decline, according to data published by China’s National Bureau of Statistics on Wednesday.

But it was consumer-price inflation, which had remained positive even as producer prices turned negative, that marks the bigger shift. Last month’s 0.3% drop, after a flat June, was the first decrease since February 2021, a reading thrown off by year-over-year comparisons to the early days of the pandemic, when supply chains and food prices were in disarray.

Apart from November 2020, when the pandemic was rattling the economy, consumer and producer prices hadn’t been in deflationary territory together since 2009, at the depths of the global financial crisis. (…)

Stripping out volatile food and energy prices, so-called core inflation rose to 0.8% in July, the highest level since January, from 0.4% in June. (…)

Even though producer-price deflation eased in July, the 4.4% drop was worse than 4.1% expected by economists polled by The Wall Street Journal. (…)

Bloomberg adds:

(…) “With the impact of a high base from last year gradually fading, the CPI is likely to rebound gradually,” Dong Lijuan, chief statistician at the NBS, said in rare additional comments to accompany the official data. Chinese authorities have recently sought to prevent economists from discussing deflation in a bid to promote positive narratives about the economy. (…)

Beijing has tried to downplay the risk of deflation in the economy with some Chinese-based analysts saying they were instructed by regulators and their companies not to discuss the matter publicly. PBOC officials said last week that China will avoid deflation in the second half of the year, with consumer-price growth likely to trend closer to 1% by the end of the year. (…)

The core inflation measure, which excludes volatile food and energy costs, picked up to 0.8% from 0.4%, a sign of underlying — although subdued — demand in the economy. A breakdown of the consumer inflation figures showed prices for household goods, food and transport contracted, while prices of services spending, like recreation and education, climbed. (…)

Using the gross domestic product deflator — a measure of economy-wide prices — China was in deflation in the first half of the year.

• Country Garden Is in Danger of a Default Rivaling Evergrande

Country Garden Holdings Co., helmed by one of China’s richest women, Yang Huiyan, has left investors in the dark after dollar bondholders said they’ve yet to receive coupon payments effectively due Monday. That puts the firm—which had 1.4 trillion yuan ($199 billion) of total liabilities at the end of last year—on course for its first public default if it doesn’t make the payments within a 30-day grace period.

Formerly the nation’s largest private-sector developer by sales, the builder of more than 3,000 housing projects in smaller cities is a household name and employed about 70,000 people at the end of last year. That status had given it the firepower to withstand an industry cash crunch that led to record defaults since Evergrande first missed bond payments in 2021. But tumbling industry home sales and soaring refinancing costs are threatening that streak.

“Any default would impact China’s housing market more than Evergrande’s collapse as Country Garden has four times as many projects,” Bloomberg Intelligence analyst Kristy Hung wrote in a report Wednesday. “Any debt crisis at Country Garden will have a far-reaching impact on China’s housing market sentiment and could significantly weaken buyer confidence on solvent private developers.”

No small stuff!

• Chinese exports to the U.S. fell 23% YoY in July. Shipments to the EU and ASEAN each dropped by about 21%.
• July China manufacturing PMI survey reveals that “new export business [new orders] contracted at a solid pace that was the fastest since September 2022” and that “competitive pricing strategies and price negotiations with clients led to another reduction in average output charges.”
• “July survey data highlighted a considerable decrease in eurozone manufacturing output. (…) weakness was broad-based (…) [with] demand conditions extremely weak”.
• “New Export Orders Index signalling the fastest reduction in international demand for ASEAN manufactured goods in four months.”
• In the USA: “Alongside evidence of subdued domestic demand, new
  export orders fell for the fourteenth month running. Challenging economic conditions across key export markets, especially in Europe, were often linked by panellists to the decrease.”
• While demand from its Western clients keeps weakening, Russia’s contribution seems to be waning as “new sales rose at the softest pace in 2023 to date as new export orders returned to contraction.”

Evidently, the goods inventory correction in the U.S. has spread across the globe and is particularly impacting China, already hurting from the trade conflict with the U.S. and the ongoing, perhaps accelerating, deglobalization in manufacturing.

(Ed Yardeni)

The hope was that domestic demand would offset weak exports but Chinese seem to prefer to boost their savings after a devastating pandemic and the demise of the housing market where the bulk of their savings reside.

The Chinese housing industry has been unraveling in slow motion for 2 years but the pace is accelerating with a risk of imploding under its mountain of debt. Xi and co. are trying to fix it but this is a confidence problem that can only go away after the industry restructures. How and when is not apparent just yet.

Here’s how the South China Morning Post described the housing market in June:

Grim figures for home sales in June in China show that the sector remains in crisis and will continue to weigh on the country’s economy as developers suffer amid a lack of buyer confidence.

Sales in June fell 28.1 per cent among the 100 largest developers by sales, compared to the same month last year when Covid restrictions were widely in place, according to CRIC, one of China’s largest real estate brokers. Sales rose 8.5 per cent month on month – the lowest recorded growth in what is normally a buoyant month.

Looking at just the top 25 developers selected by CGS-CIMB Securities, the news is even worse, as June sales fell 38 per cent year on year, said the firm’s managing director Raymond Cheng, citing CRIC’s data.

“We think further sales declines since April will lead to more liquidity issues for the sector and hurt China’s economic recovery as well as job creation,” he said. “Typically, developers report double-digit growth of 10 to 20 per cent year on year or month on month for June, before the liquidity issues started.”

The nightmare scenario is a collapse in prices. Recent stats indicate that secondary market prices declined 0.7% MoM in June after -0.4% in May.

Meanwhile, the government is widely expected to keep stimulating but this can only go so far when external demand is declining and the housing market, some 25% of the economy, needs a major intervention.

As BCA Research shows, China needs more and more capital to sustain growth.

Source: BCA Research via The Daily Shot

So, this is no slam dunk:

China to Be Top World Growth Source in Next Five Years, IMF Says Nation’s contribution of 22.6% seen as double the US portion

The nation’s slice of global gross domestic product expansion is expected to represent 22.6% of total world growth through 2028, according to Bloomberg calculations using data the fund released in its World Economic Outlook released last week. India follows at 12.9%, while the US will contribute 11.3%.

Source: Bloomberg using IMF WEO April 2023 forecasts

The emergency lender sees the world economy expanding about 3% over the next half decade as higher interest rates bite. The outlook over the next five years is the weakest in more than three decades, with the fund urging nations to avoid economic fragmentation caused by geopolitical tension and take steps to bolster productivity. (…)

Note: I am travelling for another week, impacting frequency and depth.

Slower Hiring This Summer Could Take Heat Off the Fed Unemployment rate falls to 3.5%, near a half-century low, and wage growth holds steady at elevated level

The U.S. economy added 187,000 jobs in July, a still solid increase nearly matching June’s downwardly revised 185,000 gain, the Labor Department said Friday. Those figures are down significantly from a year earlier and below last year’s average employment growth of about 400,000 a month. (…)

Wages continued to rise briskly, with average hourly earnings growing 4.4% in July from a year earlier, the same rate as in June—down from last year but well above the prepandemic pace. (…)

Adding to signs of cooling labor demand, Americans also worked less in July, with average weekly hours ticking down slightly to match the lowest level since April 2020.

Job openings decreased in June and workers quit jobs at a slower rate, suggesting lower confidence they could land new positions. (…)

This stacked aggregate payrolls chart illustrates that monthly labor income growth has stabilized around +0.5% but that wages are taking a larger share of the growth while actual employment and hours works are slowing.

America’s Truckers, Cargo Pilots and Package Carriers Are Fed Up Inflation and resentment are stoking heightened labor activism, with FedEx pilots rejecting a union-brokered deal.

The Teamsters, which represents drivers at trucking company Yellow, threatened a strike shortly before the company shut down July 30. FedEx pilots recently rejected a new labor contract promising a roughly 30% raise. Port workers in Canada staged walkouts earlier this year and dockworkers at West Coast ports slowed work at container terminals. (…)

Transportation workers said they are entitled to a larger share of the corporate profit generated during the pandemic and better pay and recognition for showing up through the health crisis when other staff was able to work remotely.

“We know what we’ve sacrificed to make certain that goods and services are provided,” Teamsters General President Sean O’Brien said at a rally in Atlanta on July 22, days before a tentative agreement with United Parcel Service was reached and amid the Yellow threats. “Now is our time to be rewarded.” (…)

Employers say they are offering outsize wage increases and changing their operations to improve conditions for workers. UPS got rid of a lower-paid weekend driver role and agreed to ensure that delivery vehicles have adequate cooling equipment for drivers. Railroads are promising more predictable work schedules so workers can plan and attend family activities on their days off. (…)

Pilots at FedEx recently surprised industry observers by voting down a union-brokered deal that would have raised their wages about 30% by 2028. Some pilots said that they saw their counterparts at passenger airlines get higher wages in recent weeks, and that they were also worried about insufficient job protections. (…)

• UAW seeks 40% pay boost in talks with Detroit automakers. (WSJ)
• Workers to Employers: We’re Just Not That Into You In the postpandemic economy, we’re living more and working less

Employees still love remote work, but recent studies find no boost to productivity and a decline for fully remote work. 

And yet most employers have given up on prodding staff to return to the office full time. According to the Society for Human Resource Management (SHRM), 62% of employers offer the option to work remotely at least some time. The Census Bureau finds that 39% of workers are teleworking from home, half of them five days a week. (…)

Employees think they’re 7.4% more productive working from home, according to surveys conducted by Nicholas Bloom of Stanford University and two co-authors. Their managers think the opposite, estimating workers are 3.5% less productive at home. The reason, according to the economists’ review of recent research, is that communicating with an employee at home is more cumbersome and time-consuming, while reduced social interaction and feedback diminish creativity and learning. (…)

And even if productivity suffers, that might be more than made up for by cost savings. Remote employees might need less office space, live in cheaper places and accept lower pay: The authors found employees value working from home two or three days a week as equivalent to an 8% pay increase. It will take more than the threat of unemployment to undo this shift in values.

Labor productivity is up 5.0% since Q4’19 but Employment Costs are up 13.6%. Corporate profits jumped 60% during the first 2 pandemic years but have declined in each of the past 4 quarters, though still well above their pre-pandemic levels.

Business sales significantly outpaced inflation through mid-2022 but are down 2.6% since while inflation is up 3.5%.

So profit margins spiked up post pandemic but will be under pressure from slowing demand (the Fed’s main objective) and rising labor costs. Add now higher financing costs and possibly rising energy costs to challenge margins even more. Note how margins don’t always need a recession to decline.

• Earnings Season Threatens Lofty Stocks Investors say optimism in markets could evaporate if profits get squeezed further

(…) Companies in the S&P 500 are set to log a roughly 7% year-over-year decline in earnings for the second quarter, according to a FactSet blend of reported results and consensus analyst estimates. That would mark the largest quarterly earnings decline for the index since the second quarter of 2020 and a third consecutive quarter of declining profits.

Earnings expectations for the third and fourth quarters have dropped, too. At the beginning of the year, Wall Street analysts expected profits to grow nearly 5% in the third quarter and almost 10% in the fourth quarter, according to FactSet. Now, they see increases of roughly 0.2% and 7.4%. (…)

Net profit margins among companies in the S&P 500 are poised to fall to 11.4% for the second quarter, according to a FactSet blend of reported results and consensus analyst estimates, below the previous quarter’s 11.5% and the year-earlier’s 12.2%.

Consumer-products maker Procter & Gamble raised prices by 7% across its brands in the June quarter from a year earlier, propping up earnings. But sales volumes fell 1%, signaling some resistance from inflation-weary customers.

“At a certain point, consumers will balk. Something at some point will give. You can’t indefinitely increase prices,” said George Cipolloni, portfolio manager at Penn Mutual Asset Management. (…)

The fact is that increasingly higher interest rates eventually bite harder and wider…

• Corporate defaults this year are running at their fastest rate in over a decade — outstripping the surge we saw in the 2020 pandemic/lockdown recession. S&P is tracking more than 200 companies falling into “severe stress” because of the sharp rise in interest rates (and, incredibly, we have people at the Fed who somehow believe all the effects of what the Fed has done is in the rear-view mirror). (…) A recent paper by the Fed itself shows that 37% of publicly-traded firms are likely to struggle as they attempt to roll over their debt and concluded that the knock-on effects could be “stronger than in most tightening episodes since the late 1970s.”(D. Rosenberg)

A Real-Estate Haven Turns Perilous With $1 Trillion Coming Due Apartment buildings rose in value for years, but surging interest rates loom over the sector’s property owners now.

(…) The apartment sector’s main problem isn’t a lack of demand—rents have soared since 2020—it is interest rates.

The sudden surge in debt costs last year now threatens to wipe out many multifamily owners across the country. Apartment-building values fell 14% for the year ended in June after rising 25% the previous year, according to data company CoStar. That drop is roughly the same as the fall in office values. (…)

Mortgage delinquencies in the multifamily category are low but increasing. Borrowing costs have doubled, rent growth is slowing and building expenses are rising. (…

Outstanding multifamily mortgages more than doubled over the past decade to about $2 trillion, according to the Mortgage Bankers Association. That is nearly twice the amount of office debt, according to Trepp. The data provider adds that $980.7 billion in multifamily debt is set to come due between 2023 and 2027. (…)

Multifamily-building owners in Los Angeles, Houston and San Francisco have defaulted on loans against thousands of apartments. Blackstone, the world’s largest alternative-asset manager, has defaulted on mortgages on 11 Manhattan apartment buildings, according to a person familiar with the matter. A spokeswoman for Blackstone said the buildings have unique issues and are “not representative of the strength we’re seeing in our broader rental-housing portfolio.” (…)

Apartment-building owners often borrowed more than 80% of the building value from bond markets. Most apartment loans are fixed-rate, long-term mortgages. During the pandemic, however, investors took out more shorter-term, floating-rate loans. (…)

But few anticipated that interest rates could rise so quickly, pushing down building values and forcing landlords to refinance at much higher rates. Regional banks, a crucial source of funding, are lending far less today, making it harder to refinance mortgages. Rent growth has slowed sharply in many U.S. cities, while inflation and growing insurance premiums have raised the cost of running buildings. (…)

The unusually high number of new apartment buildings opening this year and next, especially on the higher end of the rental market, poses a supply concern. (…)