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    Gavekal Dragonomics

    The Other Property Inventory Problem Is Even Bigger

    China’s inventories of unsold housing have been declared a national problem—but officials should spare a moment for the even larger overhang in the non-residential property market. While the irrational exuberance toward commercial and office construction is finally fading, they will be a drag on construction growth for the foreseeable future.

    4
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    Gavekal Research

    Real Yields Still Favor A Strong Yen

    Haruhiko Kuroda didn’t quite say he will do “whatever it takes” to push up inflation expectations, but he did the next best thing. Speaking at Jackson Hole on Saturday, the Bank of Japan governor promised “to take additional easing measures without hesitation”. Declaring there is “ample space” to expand the size and the scope of the BoJ’s asset purchases, as well as to push short term interest rates further into negative territory, Kuroda...

    0
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    Gavekal Dragonomics

    A Pause In The Bond Bull Market

    The summer rally in the Chinese domestic bond has been strong, but now may be due for a pause. While Chinese government bonds certainly remain attractive over the medium term, they will probably range trade for the next three to six months until the central bank is ready to let policy interest rates take the next step down.

    0
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    Gavekal Research

    The Fed’s Hawkish Stance

    For those who thought Janet Yellen a dyed-in-the-wool dove, her Jackson Hole speech on Friday gave pause as she endorsed fellow policymakers’ recent statements that the US economy was strong enough to warrant interest rate rises. Markets quickly adjusted. The implication for global asset markets is not altogether encouraging.

    0
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    Gavekal Research

    Video: Yield Chasing—What Could Go Wrong?

    Louis outlines his view on this summer's unusual global economy and offers investment advice going forward into autumn.

    0
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    Gavekal Research

    The Falling Natural Rate Is No Mystery

    As the high priests of global central banking congregate in Jackson Hole, much of the chatter ahead of the meeting has concentrated on the “mystifying” fall over recent years in the natural rate of interest, and possible reasons why it should have declined to such an extent. Having spent the last ten years attempting to apply the economic theories of the great 19th century Swedish economist Knut Wicksell, I have to say I am delighted with the...

    6
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    Gavekal Research

    Battered But Still Standing

    Battered by terrorist attacks and crippling strikes, France has hardly been having a good time of it. These problems were amply reflected in second quarter growth data which stalled after a mildly encouraging 0.7% QoQ rise in the first quarter. Yet a decent flash PMI for August—which rose to a 10-month high of 51.6—suggests an underlying resilience, which may render the 2Q16 soft patch a blip on a modest, but concerted, economic upturn of the...

    0
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    Gavekal Research

    The Next EM Yield Play?

    With global growth having stabilized and central banks remaining in super-easy mode, the dash for yield is making emerging markets ever more interesting. In recent months a number of our Hong Kong-based writers have advised investors to play this trend through bonds not equities, with Udith chiming in on Monday (see Indonesia: Bet On Stability Not Growth). The question for those who expect this “not too hot, not too cold” phase to persist is...

    7
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    Gavekal Dragonomics

    Playing The Game

    The Olympic Games may be over, but Chinese enthusiasm for sports and a healthier lifestyle is still going strong. Participation in sports has steadily risen in recent years, driven by higher incomes, a changing culture and a more supportive government. Higher-income Chinese people are, like their peers abroad, ever more focused on their health.

    0
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    Gavekal Research

    Renzi’s Great Gamble

    Italian Prime Minister Matteo Renzi has bet his premiership on a referendum over constitutional reform. It is a high stakes gamble. Renzi’s promise to step down if there is a “No” vote has turned the referendum into a vote of confidence in the government, its Europhile policies, and Italy’s membership of the eurozone itself.

    10
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    Gavekal Research

    A Brexit-Induced Recantation

    Exactly two months have now passed since the Brexit referendum. It is now an appropriate time to review what has happened, and what hasn’t, since June 23. As a quintessential member of the elite that was angrily repudiated by a majority of British voters, this referendum was a profound emotional trauma. Therefore, my initial reaction turned out to be completely wrong.

    10
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    Gavekal Research

    Indonesia: Bet On Stability Not Growth

    Late last summer, Indonesia looked like a disaster in the making as the worsening commodity bust caused its currency and equity markets to plunge. A sharp fall in exports had caused economic growth to crater, while high inflation limited the scope for monetary easing. It was a time for strong leadership and decisive action, yet President Joko “Jokowi” Widodo seemed weak and ineffectual. A year on and much has changed with economic growth up,...

    0
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    Gavekal Research

    Milestones On A Different Road

    The latest surge in China’s outward investment is not driven by state firms following strategic dictates—the Belt-and-Road has yet to gain traction—but by the private sector. The key question now is how long rich countries will put up with big inflows of Chinese money while their own firms are shut out of the best parts of China’s economy.

    0
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    Gavekal Research

    Video: Italy's Constitutional Referendum

    Nick presents what's at stake in Italy's upcoming constitutional referendum, and what it could mean for the European Union

    0
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    Gavekal Research

    Video: The Politics Of Italy's Referendum

    Stefano Capacci On The Politics Of Italy's Referendum

    0
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    Gavekal Research

    Cheap For A Reason

    By most measures, US equities are not cheap. Yet many investors remain overweight, believing that in a world of ultra-low interest rates and negative bond yields, equity valuations should be higher because future cash flows are now discounted at a much lower rate than in the past. At first glance, the equity risk premium—the expected return on stocks over and above the risk-free rate—appears to support this belief. At more than one standard...

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  • Gavekal Dragonomics

    When Will Monetary Policy Get Interesting Again?

    China’s monetary policy hasn’t been exciting lately: the PBOC has not moved benchmark interest rates since October 2015, instead keeping interbank rates stable. But as Mervyn King said, a successful central bank should be boring. This quiet can last a bit longer: the PBOC is unlikely to cut rates until 2017, when growth comes under more pressure.

    2
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    Gavekal Research

    It Still Pays To Pump

    The dog days of August have proved anything but dull for the oil market. As chatter began to circulate about a production freeze next month, funds rushed to cover their shorts and put on new longs in the futures market. In response the benchmark Brent crude price rebounded some 17% in the first two weeks of the month to within a whisker of US$50/bbl, reversing much of its -21% correction since early June. It feels very much as if we have seen...

    0
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    Gavekal Research

    A New—But Pricey—Market

    The last big barrier to investment in onshore Chinese equities is to be dismantled. Yesterday China’s cabinet approved the Shenzhen-Hong Kong Connect scheme. When the new link goes live, international investors will have free access to 80% of China’s onshore market capitalization, though the Shenzhen-listed stocks have eye-watering valuations.

    0
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    Gavekal Research

    The Dollar And The Next Crisis

    For a third straight month in June, foreigners unloaded US bonds, with “official institutions” leading the way on net sales of US$33.5bn versus a small rise in buying by offshore private investors. The interesting thing is that foreign central banks have been lightening their US dollar reserves for a while, but the contraction has now intensified to -5.6% year-on-year. Previously, such a decline in foreign holdings of the global reserve currency...

    7
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    Gavekal Research

    Demographic Dividend Or Demographic Nightmare?

    Among the Herculean challenges facing the government of India, job creation ranks first. Simply put, the number of new jobs is not keeping up with economic growth—a huge problem in a country where half the population is aged below 25. India needs to create roughly 8mn new jobs every year to absorb new entrants into the labor force. In addition, it needs to create more opportunities both for farmers seeking better-paying non-agricultural work and...

    0
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    Gavekal Research

    The Euro And Mean Reversion

    Among my long-standing decision rules is one that generally proved reliable in the past. If two developed and open market economies trade freely with each other, then over the long run the return on invested capital in each economy will tend to be the same. In turn, this implies that over the long run, the ratio of total returns from each stock market will exhibit no trend in common currency terms. This makes intuitive sense—if one market...

    7
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    Gavekal Research

    Ripples In The Eurodollar Market

    The Eurodollar market is making waves. While most benchmark interest rates around the world have been stable or softening, US dollar Libor has bucked the trend. Over the last seven weeks three-month Libor has climbed by almost 20bp to a shade over 0.8%. Meanwhile the TED spread, which effectively measures interbank credit risk by tracking the spread between Eurodollar rates and three-month US Treasury bill yields, has shot to its widest since...

    2
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    Gavekal Research

    Irving Fisher, Debt-Deflation And The Bifurcated US Economy

    Many of our readers will be familiar with Irving Fisher’s great 1933 paper The Debt-Deflation Theory Of Great Depressions. The main point of this fascinating work is that if an economy suffers simultaneously from over-indebtedness and falling prices, then strange things start to happen. These include a fall in the velocity of money and a collapse in capital spending. And when it comes to interest rates, Fisher explained that things get really...

    3
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    Gavekal Dragonomics

    Housing Takes A Breather; More Stress On The Way

    July was a weak month for China’s economy, as investment, industrial production and retail sales all slowed. An important exception was the property market, where sales ticked up and buyer sentiment seems strong. Nonetheless, housing activity will continue to slow over the rest of the year, if at a gentler pace than the plunge in May and June.

    0
  • Gavekal Research

    Video: Indian Growth And Demographics

    0
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    Gavekal Research

    Eurozone Equities Ride Again

    Eurozone equities have been sucked higher in the post-Brexit global rally, but with earnings showing a mild pick-up and fears of a populist political contagion fading, the hope is that a 15 month downtrend has been broken. On a technical level the MSCI EMU’s 200-day moving average has flattened out nicely, and with the DAX on Tuesday hitting a high for the year, German stocks look as if they could break out. As to whether the broader market can...

    0
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    Gavekal Dragonomics

    Car Sales: Plenty Of Gas In The Tank

    With heavy industry in the doldrums and the golden age of housing long gone, it’s getting harder to spot areas of sustained growth in China’s economy. An important bright spot is the automotive sector: while the recent breakneck pace of car sales will slow, the value of new car sales is likely to keep growing faster than GDP for the next decade.

    0
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    Gavekal Research

    India’s Enhanced Central Bank

    Louis is fond of quoting Lenin that there are “decades when nothing happens and weeks when decades happen”. Given India’s generally sclerotic pace of institutional change, these seem to be revolutionary times that will dictate the policymaking framework for years to come. Last week saw parliamentary approval granted for a national goods and services tax that should spur a genuinely common market, while lawmakers this weekend signed-off on an...

    0
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    Gavekal Research

    The Last Free Lunch In US Markets

    Even as US equities hit new highs, this most policy-driven of bull markets remains unloved, with most investors we meet expecting an eventual collapse. US profits are declining, valuations are rich and the headwinds facing the industrial sector, in particular, show no sign of abating. On an economy-wide basis, the return on invested capital earned by US firms is falling, so edging the economy closer to recession (see A New Look At Capital:...

    1
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    Gavekal Research

    Beware The “High Dividend” Lure

    Investors have been piling into US high dividend plays as they offer decent income and a “margin of safety” in an increasingly expensive equity market that, despite soft earnings, continues to make new highs. The chase for yield has been boosted by global central banks’ easing measures which have helped drive bond yields to pifflingly low levels; at the same time the S&P 1500 dividend yield has stayed steady this year at about 2%. Yet any...

    0
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    Gavekal Research

    The Caveat In US Payrolls

    Notions of a US growth scare were apparently banished on Friday with a bullish payroll report for July helping drive US equities to a new high and causing the dollar to rally strongly. Some 255,000 jobs were added—far better than the expected 185,000—while a cycle-high average hourly earnings gain of 2.6% YoY points to strong domestic demand. So how to square this data with the far less cheery 2Q16 GDP report, released last week, which showed...

    2
  • Gavekal Research

    Video: Risks In US High Dividend Stocks

    0
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    Gavekal Research

    Behind The BoE’s Positive Thinking

    Yesterday the Bank of England rolled out the artillery it plans to deploy against the UK’s fast-materializing post-referendum slowdown. Yet for all the effect they are likely to have, the Bank’s big guns might as well be peashooters. Although the Bank’s new forecasts suggest the UK is heading for a period of stagnation, rather than outright economic contraction, all the latest forward-looking indicators point to a severe recession starting in...

    5
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    Gavekal Research

    India’s Great Leap Forward

    India, finally, is on course to become a genuine economic power. Calling it a “Treaty of Rome” moment goes too far, but India’s Goods and Services Tax could prove nearly as significant as the agreement that created the European common market. India has been a strong political state for nearly 70 years, but its fragmented economy prevents goods and many services from moving freely within its borders. The GST promises to create a genuinely common...

    2
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    Gavekal Dragonomics

    A Better Indicator Of Investment

    Growth in fixed-asset investment is now the lowest it has been in the 12-year history of the data. But FAI is a very messy indicator, and increasingly inconsistent with the national accounts. Out of frustration, I have built a simple model to track investment growth in national-accounts terms—gross fixed capital formation—on a monthly basis.

    4
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    Gavekal Research

    The Death Throes Of The JGB Market

    While the Japanese government was rolling out its latest stimulus package yesterday—with a headline value of ¥28trn, but only ¥4.6trn of additional fiscal spending this year—investor attention was fixated on the spasms in the JGB market. Having touched a record low of -0.3% last Wednesday, the yield on 10-year JGBs leapt 28bp in just five trading days to hit a four and a half month high of -0.02% yesterday morning. On one level the spike in...

    4
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    Gavekal Research

    Toynbee’s Europe

    In A Study of History the great Arnold Toynbee explained that the role of “elites” in any society is to handle challenges that allow the group to survive and move on to the next phase of their shared journey. If bad solutions are offered up then problems will intensify and pressure will arise for a change in the elite. This can happen in various ways: through elections in a best case scenario, a change of regime as with France’s forth Republic...

    3
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    Gavekal Dragonomics

    The Temptation Of Early Retirement

    China's workers retire young—at age 54 on average, a decade earlier than in many European welfare states. The central government is now pushing hard to extend retirement ages to keep pension costs under control. But local governments are resisting, hoping to keep using early retirement to manage redundant workers in excess-capacity industries.

    0
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    Gavekal Research

    The Baleful Influence of Inventories

    The reason US second quarter GDP growth was so disappointing at 1.2% QoQ annualized was a deep contraction in US business inventories, which knocked -1.16pp off the quarterly growth figure. In itself, a fall in inventories need not be such a bad thing for longer term growth. If inventories get run down because companies are unable to keep up with a surge in demand, then a fall in inventories can foreshadow increased investment to expand business...

    0
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    Gavekal Research

    Recession Or Stagnation?

    On Friday US GDP data for 2Q16 was released showing an expansion that looks ever more anemic and unconvincing. Is this just the new normal in an era of stagnant global growth or is the US more perilously poised? To answer that question, imagine the US economy having two parts in the shape of “consumer GDP”, which represents about three quarters of activity, and the remainder being the non-consumer “production” portion.

    3
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    Gavekal Research

    The Gavekal Monthly: Shall We Dance?

    In a world in which the Fed shows no inclination to get ahead of the curve on inflation and in which both the ECB and the BoJ are in full quantitative easing mode, investors everywhere are on the hunt for yield. But the chase is a nervous one. Investors are all too aware that equities and bonds are sending conflicting signals, and that the favorable trends that have lifted most assets over the last six months could be disrupted by a sudden spike...

    0
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    Gavekal Research

    The Cracks Begin To Appear

    Backward-looking data has held up surprisingly well in the UK since June’s Brexit vote. It is not that second quarter GDP growth came in ahead of expectations at 0.6% QoQ; only one week of 2Q fell after the referendum. However, despite dire warnings of the damage June’s “Leave” vote would inflict on the UK’s all-important property market, home prices proved remarkably resilient in July. The Nationwide house price index rose 0.5% MoM, an...

    1
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    Gavekal Research

    There’s No Need To Fear A Tighter Fed

    While the US Federal Reserve left interest rates unchanged yesterday as expected, it did revise its statement to sound marginally more hawkish. Most notably, it added the line, “Near-term risks to the economic outlook have diminished,” while tweaking its language to reflect recent relatively solid data releases. The market took the announcement in its stride. The S&P 500 ended the day little changed. Yields on 10-year treasuries fell...

    7
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    Gavekal Research

    The EM Equity Question

    Despite this year’s strong run-up, there remain good reasons to stick with emerging market assets. The twin impact of collapsed borrowing costs amid a renewed global hunt for yield, and greatly reduced exchange rate volatility has been the ideal environment for EM yield curve flattening trades.

    2
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    Gavekal Dragonomics

    Profits Follow Housing Up, And Down

    China’s industrial profits bounced back to 6.2% growth in the first half, a stronger than expected recovery. The drivers are a boom in metals driven by the housing rebound, and continued gains in consumer sectors. But the metals boom is a temporary one, so after a couple more quarters of gains, a renewed down-cycle is likely in early 2017.

    0
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    Gavekal Research

    One Certainty In An Uncertain World

    In an uncertain world, in which Brexit, the US presidential elections, the future of the eurozone, are all strewn with wild cards whose potential impact is impossible to quantify, investors are left grasping for certainties. One is that whatever happens in the near term, the European Central Bank will continue to buy financial assets, including corporate debt.

    0
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    Gavekal Research

    The Way Ahead For Italian Banks

    On Friday, the European Banking Authority will publish the results of its 2016 stress tests. Although 51 banks from across the European Union have been tested, attention will focus most closely on the results of the five Italian banks covered. With Italy’s banking system widely identified as the most likely locus of a new eurozone crisis, bankers, politicians and investors are all hoping for the “best” likely result. This would see all the banks...

    2
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    Gavekal Research

    Trump And The Prisoner’s Dilemma

    Let us assume that Mervyn King is right and the week-to-week strategy of major central banks has become to stop equity markets within their jurisdiction from going down. And let us further assume that markets are fully convinced of central bankers’ resolve to achieve this end. In the case of US equities, which sit at the center of the global system, such a proposition logically means that their price has two components: (i) the “intrinsic value...

    1
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    Gavekal Dragonomics

    Iron Ore’s Battle Of Attrition Is Over

    China’s iron ore imports jumped in early 2016, finally validating global mining companies’ strategy to gain market share. As low prices continue to force domestic mines to close, iron ore imports still have a few quarters of growth ahead. But with import penetration already over 80%, there is not much market share left for global miners to grab.

    0
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