China is a buy! So is the U.S. And by default, the rest of the world.
President Trump has spoken, or rather Tweeted: the trade talks, which end on Friday, aren’t just going well; they are going really, really well.
We have heard this before. But so what, “everything is awesome”, as Nordea Asset Management’s senior macro strategist Sebastien Galy wrote in a note to clients this morning from Luxembourg.
The X-Trackers China A-Shares (ASHR) exchange traded fund was up 1.42% as Trump meets with Liu He later in the day on Friday.
I call it the China “yippie ki yay” trade, because I’m in a Die Hard sort of mood and it serves as a counterpoint to the Lego Movie’s “everything is awesome” catch phrase. Who would be surprised if this all goes south by the end of the day? Hopefully no one but the computer trades at the quant funds.
In the meantime, let’s go with what we know today.
“The market under-estimates how great this shift is,” says Galy about the mood in the market. “Trump needs a deal as he has few levers left to influence the U.S. economy left. We are in the first steps of a first pass agreement likely covering agriculture and some manufacturing, with more to be negotiated in the coming quarters,” he thinks, adding that a final deal would need to happen ahead of next year’s elections.
Define “deal”. Most China fund managers here in the U.S. see a protracted trade war rather than one drawing to a close. A deal won’t be some all-encompassing bilateral trade deal like the kind you can ink with Japan. It’s going to be mini-deals, one step at a time, which is how China would prefer it.
“The trade war is a new normal,” says Lu Yu, a fund manager at the roughly $500 billion Allianz Global Investors in San Diego. “It’s going to be here for a while.”
Meanwhile, Bloomberg did its best NBA impression on Friday arguing in a headline that Xi Jinping bested President Trump in laying out the welcome mat for corporate investors. Xi is opening China to foreign financial services firms, even though that is something long in the making and already underway. China has a penchant for announcing its opening-up policies during key moments, just ask members of the American Chamber of Commerce in Beijing who have been promised this stuff for years.
Xi showed up no one, really, with this news of greater foreign control of local financial services.
The U.S. has laid out the welcome mat for China business for decades, including banks. The only Chinese investments that are not welcome in the U.S. are those deemed national security risks.
Walk down Midtown Manhattan and you will see China Daily newspapers, Chinese language advertisements for Chinese products on bus stops, and Chinese state owned banks. You will also see advertisements for Xinhua News on one of the big flashing billboards in Times Square.
That China is opening more to U.S. business is good for China, and good for American banks like Goldman Sachs, who are there and growing their footprint. But China is behind the eight ball in returning the favor. From a portfolio perspective, the Chinese are greatly restricted from investing here. We would welcome that, too. Beijing doesn’t want them to come here.
The opening up of China’s financial services sector is no longer a market mover. Today’s move is all about another trade truce.
There is also the strong possibility of establishing a currency pact with Beijing as part of a partial trade deal between now and mid-November when Trump and Xi Jinping meet at the APEC Summit in Chile. If established, both sides will explicitly agree on exchange rate policies. The pact would probably be like agreements the U.S. has with Canada and Mexico, though there are some concerns that China would be unwise to agree to a stronger exchange rate.
“China needs to let its currency free float eventually, and make it fully convertible if it is going to be the world’s second largest economy,” says Vladimir Signorelli, founder of Bretton Woods Research in Long Valley, New Jersey.
Hong Kong’s Hang Seng Index beat the mainland equity markets on the headlines today, rising 2.34%, or 600 points higher with volumes 24% more than Thursday and above average for the year.
“In spite of an escalation in tariff increases against Chinese imports, proposals to impose capital flow restrictions into China and a widening of the tariff net to include the EU, investors remain upbeat about a positive resolution to the trade dispute,” says Neil Mackinnon, an economist for VTB Capital in London. “Whether this proves to be the triumph of hope over experience remains to be seen.”
Both countries have imposed tariff increases with a 15% increase on $110 billion in Chinese goods coming up this month. Expectations are for those tariffs to be put on hold for a second time. There is also the scheduled December 15 tariffs, also expected to be postponed. This means that only half of Made in China goods have tariffs when this summer it had looked like all of China’s exports here would be subject to tariffs by year’s end.
Tariffs have taken a toll on Chinese manufacturing, far worse than official data suggests.
Major multinationals like Coca-Cola, McDonald’s or Microsoft have no interest in leaving China, but enough small to mid-sized companies are growing tired of the uncertainty and are looking elsewhere because they see a decoupling of the two economies still in the works.
The process of sourcing outside of China has started and is unlikely to change.
China wants to make a deal not because they are all peace and love, but because they are practical. They want to slow the trend of private companies moving to southeast Asia. They want to keep American companies reliant on China for manufacturing because that’s an important job market for them.
The Mini-Deal Takeaway
The idea of a mini-deal gives markets a breather for now, lessening the demand for safe haven fixed income in the near-term in favor of global stocks.
Why would Trump want to make a deal, as he proposed on Twitter this morning? China takes the Autumn soybean harvest, making red states happy heading into an election year. Equity markets rally for a few days, making Trump happy at a time when his opponents are revising the Russian conspiracy and replaced it with a Ukrainian one.
China matters way more to America than those two countries combined.
“The voting public is in an anti-China lather, much of it of Trump’s own making,” says Brian McCarthy, chief strategist for Macrolens in Stamford, Connecticut. He says an interim deal doesn’t change the “economic uncertainty” narrative. Then there is this caveat: a cease-fire risks derailing the Fed’s easing campaign, something Wall Street has swooned over for months.
The China Happy Yippie trade won’t last long.
Washington has already labeled China a national security threat in the Director of National Intelligence’s Worldwide Threat Assessment report. Hong Kong is still a powder keg. China sentiment worsens if that situation in Hong Kong worsens.
We are witnessing world’s collide here, really. A free, capitalist, Democratic economy (the No. 1 economy) is crashing into a communist, generally closed Frankenstein economy that happens to be open to capital markets (the No. 2 economy). Something’s got to give.