China hot money heads for the exit

Huw McKay at Westpac writes:

“The Jan-Feb FX positions of China’s banks imply that FX reserves fell in the early part of the year, despite back to back monster trade surpluses of $US60 billion. The logical conclusion is that money flowed out in a big way on the financial account.”

There are two reasons why capital would flow out on the financial account. The usual explanation is the PBOC buying US Treasuries, exporting capital to prevent the yuan appreciating against the Dollar. But Huw points out that the PBOC balance sheet shows a slight decline in foreign assets held. This could be a smokescreen, with investments channeled through an intermediary. Otherwise, it could be a sign that private capital is leaving for safer shores. This from the Business Times:

More than 76,000 Chinese millionaires emigrated or acquired citizenship of another country in the decade through 2013 amid global expansion by the nation’s companies.

Australia was among the most favored destinations, broker Knight Frank LLP said on Thursday, citing data compiled by law firm Fragomen LLP. The Chinese accounted for more than 90 percent of applications for the country’s significant investor visa in the two years to the end of January, representing 1,384 people. They also make the most applications for high-net-worth visas in the UK and the US.

Consumer confidence is below 2008/2009 levels and declining.

China’s infrastructure boom is over

China has been on a record-breaking infrastructure binge over the last decade, but that era is coming to an end. Fall of the Baltic Dry Index below its 2008 low illustrates the decline of bulk commodity imports like iron ore and coking and thermal coal, important inputs in the construction of new infrastructure and housing.

Baltic Dry Index

High-end commodities like copper held up far better since 2008, but they too are now on the decline.

Copper

With the end of the infrastructure boom, China’s economy may well prove to be a one-trick pony. Transition from a state-directed infrastructure ‘miracle’ to a broad-based consumer society will be a lot more difficult.

China: Will history repeat itself?

China’s Shanghai Composite retreated from resistance at 3400, but this is a long way from signaling a down-trend.
Shanghai Composite Index

Hong Kong’s Hang Seng Index has shown much stronger gains over the last 3 years, but diverged in the second half of 2014, falling while the Shanghai Composite soared. Breach of support at 22500, and the rising trendline, would warn of a primary down-trend.
Hang Seng Index

This opinion by Andrew Sheng highlights some of the challenges facing the Middle Kingdom:

It is hard to find earlier examples of economies which experienced similar growth spurts to that enjoyed by China over the last decade. The closest are probably the US in the 1920s and Japan in the 1980s. Both of these should serve as a warning that times of rapid growth can generate vast imbalances within an economy that inevitably lead to periods of painful adjustment.

Markets back on track

Threat of a Russian collapse roiled markets in early December, but the immediate crisis now seems to have passed.

Recovery of the S&P 500 above resistance at 2080 would indicate another advance , with a target of 2150*. Rising 13-week Twiggs Money Flow troughs indicate long-term buying pressure. Reversal below 2000 is most unlikely.

S&P 500 Index

* Target calculation: 2000 + ( 2000 – 1850 ) = 2150

A 10-year view of CBOE Volatility Index (VIX) suggests low to moderate risk typical of a bull market.

S&P 500 VIX

My favorite bellwether, transport stock Fedex, also underwent a correction. The long tail suggests buying pressure and breakout above the recent high would confirm a strong bull trend, indicating rising economic activity.

Fedex

Dow Jones Euro Stoxx 50 found support at 3000 and is likely to test 3300. Rising 13-week Twiggs Money Flow indicates buying pressure, but the index is likely to continue ranging between these two levels until tensions between Russia and Eastern Europe are resolved.

DJ Euro Stoxx 50

China’s Shanghai Composite Index is in a strong bull trend, having broken resistance at 2500, and is likely to test the 2009 high at 3500. Rising 13-week Twiggs Money Flow indicates strong (medium-term) buying pressure.

Shanghai Composite Index

I continue to question China’s ability to sustain this performance, given their poor economic foundation.

Japan’s Nikkei 225 Index breakout above its 2007 high of 18000 would signal an advance to 19000*. Rising 13-Week Twiggs Money Flow indicates strong buying pressure. Index gains are largely attributable to rising inflation and a weaker yen.

Nikkei 225 Index

* Target calculation: 18000 + ( 18000 – 17000 ) = 19000

India’s Sensex found support at 27000. Recovery above 28000 would suggest another advance. Breakout above 29000 would confirm a target of 31000*.

Sensex

* Target calculation: 29000 + ( 29000 – 27000 ) = 31000

ASX 200 performance remains weak. Breach of the recent descending trendline suggests that the correction is over, but only breakout above 5550 would complete a double-bottom formation, suggesting a fresh advance. Rising troughs on 13-week Twiggs Money Flow indicate medium-term buying pressure. Reversal of TMF below zero, or breach of support at 5000/5150, is now less likely, but would warn of a down-trend.

ASX 200

* Target calculation: 5500 + ( 5500 – 5000 ) = 6000

A long-term view

Better than expected US jobs data and strong German factory orders helped to rally markets Friday. Also, ECB chief Mario Draghi’s Thursday announcement is seen as supporting broad-based asset purchases (QE) early in 2015. A long-term view of major markets may help to place current activity in perspective.

The S&P 500 continues a strong advance, with rising 13-week Twiggs Money Flow indicating medium-term buying pressure. Long-term and medium targets coincide at 2250* and we should expect further resistance at this level.

S&P 500 Index

* Target calculation: 1500 + ( 1500 – 750 ) = 2250; 2050 + ( 2050 – 1850 ) = 2250

CBOE Volatility Index (VIX) continues to indicate low risk typical of a bull market.

S&P 500 VIX

Germany’s DAX broke resistance at its earlier high of 10000, suggesting a further advance. Recovery of 13-week Twiggs Momentum above zero indicates continuation of the up-trend. The long-term target is 12500*, though I cannot see this being reached until tensions in Eastern Europe are resolved.

DAX

* Target calculation: 7500 + ( 7500 – 2500 ) = 12500

The Footsie is testing long-term resistance at 6900/7000. Respect of the zero line by 13-Week Twiggs Money Flow indicates long-term buying pressure. Breakout above 7000 would signal a fresh primary advance, with a long-term target of 10500*.

FTSE 100

* Target calculation: 7000 + ( 7000 – 3500 ) = 10500

China’s Shanghai Composite Index broke resistance at 2500 and is likely to test the 2009 high at 3500. Rising 13-week Twiggs Money Flow indicates strong (medium-term) buying pressure.

Shanghai Composite Index

Japan’s Nikkei 225 Index is testing resistance at its 2007 high of 18000. 13-Week Twiggs Money Flow respecting the zero line indicates long-term buying pressure. Breakout would signal another primary advance. A long-term target of 28000* seems unachievable unless one factors in rising inflation and continued devaluation of the yen.

Nikkei 225 Index

* Target calculation: 18000 + ( 18000 – 8000 ) = 28000

Weak ASX 200 performance is highlighted by the distance below its 2007 high of 6850. Falling commodity prices have retarded the recovery and are likely to continue for some time ahead.

The 2005-2008 Australian commodities boom was squandered, damaging local industry and hampering the current recovery. Norway successfully weathered a similar commodities boom in the 1990s, protecting local industry while establishing a sovereign wealth fund that is the envy of its peers. Their fiscal discipline set a precedent which should be followed by any resource-rich country looking to navigate a sustainable path through a commodities boom and avoid the dreaded “Dutch Disease”.

Respect of support at 5000 would indicate the primary up-trend is intact — but declining 13-week Twiggs Money Flow indicates selling pressure. Reversal of TMF below zero or breach of support at 5000/5150 would warn of a down-trend.

ASX 200

* Target calculation: 5000 + ( 5000 – 4000 ) = 6000

The daily chart shows a slightly improved perspective. 21-Day Twiggs Money Flow oscillating around zero signals indecision. Recovery above 5400 would suggest the correction is over. But reversal below 5200 is as likely and would warn of a test of primary support at 5120/5150.

ASX 200 daily

Crude oil: A zero-sum game?

“The current fall in price does nothing to offset the squeeze on the total economy from rising costs,” Grantham writes. “It merely transfers massive amounts of income from one subgroup (oil producers) to another (oil consumers), in a largely zero-sum game….”[Business Insider]

The above quote from Jeremy Grantham made me do a double-take. His “largely zero-sum game” refers to the global playing field. Oil producers such as the Saudis, Russia, Venezuela, Nigeria and Iran will earn less per barrel, while oil consumers like China and the EU will gain an equivalent amount per barrel. More importantly, oil consumers will receive a substantial boost to their economies. The “zero-sum game” assumes that crude production will remain constant. But consumption is likely to rise significantly as plunging oil prices deliver more savings to consumers, providing a massive stimulus to local economies. That in turn will lead to increased production of crude oil. A win-win for producers and consumers.

The Nymex Light Crude monthly chart shows a breach of long-term support at $75/barrel. Brent crude is in a similar down-trend. Target for the (WTI) decline is $40/barrel*.

Nymex Crude

* Target calculation: 75 – ( 110 – 75 ) = 40

Plunging prices may slow the establishment of new wells, but existing wells are likely to continue pumping as long as the price per barrel of crude is higher than the marginal cost. Marginal costs ignore sunk (or fixed) costs like exploration and establishing a new well. They are merely the variable costs that would be saved — like wages and consumables — if production is halted. Marginal costs are far lower than the producers’ total cost and are not yet threatened.

As for the long-term viability of producers at lower prices, the following chart is worth repeating. Prior to the 2005 “China boom”, the ratio of crude prices to CPI oscillated between 0.1 and 0.2. Over the last few years it has soared to between 0.4 and 0.6. A fall back to 0.2 would harm new, marginal producers (i.e. US fracking) but should not affect core producers. Whether governments reliant on “oil-welfare” — like Russia, Iran and Venezuela — are sustainable is an entirely different matter.

Nymex Crude

A tale of two economies

Stock markets in Western Europe and Asia are rallying on the strength of falling oil prices, joining the US in a bull trend. But primary producers, largely dependent on commodity exports, are likely to suffer as a result of falling prices. Australia is no exception.

The S&P 500 continues a primary advance. A conservative target would be 2200*. Rising 13-week Twiggs Money Flow indicates medium-term buying support. Reversal below 2000 is unlikely, but would warn of another correction.

S&P 500 Index

* Target calculation: 2000 + ( 2000 – 1800 ) = 2200

CBOE Volatility Index (VIX) indicates low risk typical of a bull market.

S&P 500 VIX

Germany’s DAX is testing resistance at its earlier high of 10000. Recovery of 13-week Twiggs Money Flow above the declining trendline suggests medium-term buying pressure. Breakout above resistance would offer a conservative target of 11000*. Reversal below 9000 is unlikely, but would warn of a primary down-trend.

DAX

* Target calculation: 10000 + ( 10000 – 9000 ) = 11000

The Footsie is also testing long-term resistance on the monthly chart — at 6900/7000. The sharp rise on 13-Week Twiggs Money Flow indicates strong medium-term buying pressure, but resistance at the December 1999 high is likely to be solid. Reversal below 6500 remains unlikely.

FTSE 100

China’s Shanghai Composite Index cleared resistance at 2440/2500, signaling a primary up-trend. 13-Week Twiggs Money Flow respect of its rising trendline confirms (medium-term) buying pressure. I remain wary of China. The recent rate-cut by the PBOC is cause for concern, not jubilation.

Shanghai Composite Index

* Target calculation: 2500 + ( 2500 – 2000 ) = 3000

Japan’s Nikkei 225 Index is headed for long-term resistance at 18000. 13-Week Twiggs Money Flow oscillating above the zero line indicates long-term buying pressure. Reversal below 16500 is unlikely.

Nikkei 225 Index

* Target calculation: 16000 + ( 16000 – 14000 ) = 18000

The ASX 200 is undergoing another correction. Respect of support at 5250/5300 would indicate the primary up-trend is intact — but 13-week Twiggs Money Flow reversal below zero warns of strong selling pressure. Breach of support is likely and would warn of a test of 5000.

ASX 200

* Target calculation: 5650 + ( 5650 – 5300 ) = 6000

Falling crude threatens gold

Nymex Light Crude broke long-term support at $76/barrel, signaling a further decline. Sharply falling 13-week Twiggs Momentum reinforces this. Brent crude is in a similar down-trend. Long-term target for WTI is $50/barrel*.

Nymex Crude

* Target calculation: 80 – ( 110 – 80 ) = 50

Supply is booming and OPEC members appear unwilling to agree on production cuts [Bloomberg]. Goldman Sachs project WTI prices of around $74/barrel in 2015 [Business Insider], but the following chart of real crude prices (Brent crude/CPI) suggests otherwise.

Nymex Crude

Prior to the 2005 “China boom”, the index seldom ventured above 0.2. The subsequent surge in real crude prices produced two unwelcome results. First, higher prices retarded recovery from the 2008/2009 recession, acting as a hand-brake on global growth. The second unpleasant consequence is a restored Russian war chest, financing Vladimir Putin’s geo-political ambitions.

I suspect that crude prices are not going to reach the 2008 low of close to $30/barrel, but the technical target of $50 is within reach. Given the propensity of gold and crude prices to impact on each other, the bearish effect on gold could be immense.

Markets rebound except for ASX

  • US stocks continue their bull-trend
  • European stocks strengthen
  • China likewise
  • ASX Energy and Materials sectors under pressure

The S&P 500 broke through the upper border of its broadening wedge formation, signaling a fresh advance with a target of 2300*. Rising 13-week Twiggs Money Flow indicates medium-term buying support. Reversal below 2000 is unlikely, but would warn of another correction.

S&P 500 Index

* Target calculation: 2050 + ( 2050 – 1800 ) = 2300

CBOE Volatility Index (VIX) at 13 continues to reflect low risk typical of a bull market.

S&P 500 VIX

Germany’s DAX broke through resistance at 9400/9500, signaling another test of 10000. Rising 13-week Twiggs Money Flow refllects medium-term buying pressure. Reversal below 9400 is unlikely at present, but would warn of another test of primary support at 9000.

DAX

* Target calculation: 9000 – ( 10000 – 9000 ) = 8000

The Footsie is also headed for a test of its long-term high at 6900/6950. The sharp rise on 13-Week Twiggs Money Flow indicates strong medium-term buying pressure. Reversal below 6500 is unlikely.

FTSE 100

China’s Shanghai Composite Index respected support at its 2013 high of 2440, signaling a fresh advance. 13-Week Twiggs Money Flow respect of its rising trendline confirms (medium-term) buying pressure.

Shanghai Composite Index

* Target calculation: 2400 + ( 2400 – 2300 ) = 2500

The ASX 200 is weaker, undergoing another correction. Respect of support at 5250/5300 would indicate the primary up-trend is intact — as would a 13-week Twiggs Money Flow trough above zero. Penetration of primary support at 5120/5150, however, would signal a primary down-trend.

ASX 200

* Target calculation: 5650 + ( 5650 – 5300 ) = 6000

ASX 200 Materials (15.7%) and Energy (6.0%) sectors have commenced a down-trend. This is in sharp contrast to the Financial (46.2% including REITs) and Health Care (5.2%) sectors which continue in a healthy up-trend. It is possible for the first two sectors, with a combined weighting of 21.7%, to reverse the broad index, but is not likely unless the contagion spreads to the Industrial and Financial sectors. Increased risk-weightings for home mortgages and stronger capital ratios for major banks are likely recommendations of the Murray inquiry. These will improve the long-term strength and growth prospects for Financials, but a negative reaction in the short-term could tip the sector into a down-trend.

ASX 200 sectors