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    Gavekal Research

    5C Overview: Gold & inflation

    An investor who bought gold upon Arthur Burns’ arrival at the Federal Reserve and held it up until the day Ben Bernanke announced the second round of quantitative easing would have done about as well as someone who bought-and-held US equities (using the S&P 500 total return as the proxy). Both assets compounded at a little over 10% a year between February 1970 and August 2011. Amusingly, most gold-bugs reacted to QE2 (and then QE3) with glee...

    0
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    Gavekal Research

    5C China: Looking For The Exit From Deflation

    From the consumer’s perspective, China’s inflation trends look wonderfully benign, with the consumer price index showing the kind of stable and low-but-positive inflation readings beloved of central bankers. Since 2012, CPI inflation excluding food has hovered around 1.6% YoY, never going above 1.9% or below 1.4%. Yet from the producer’s perspective, China has been going through an extended and wrenching period of deflation: the producer price...

    0
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    Gavekal Research

    Perilous Seas

    Across Asia, Xi Jinping’s much-vaunted “Chinese Dream” looks more and more like a Chinese nightmare. Last week, China unveiled an official map showing the South China Sea as an integral part of the country. The new map, which is designed to enhance awareness of China’s territorial claims stretching down the coasts of Vietnam, Malaysia and the Philippines, deepens concern that the China Seas are beginning to resemble central Europe in the early...

    0
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    Gavekal Dragonomics

    Growth, Reform Or Both?

    Is China’s government more focused on short-term growth or long-term reform? Those hoping for a clear answer are getting disappointed.

    0
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    Gavekal Research

    Perilous Seas

    Across Asia, Xi Jinping’s much-vaunted “Chinese Dream” looks more and more like a Chinese nightmare. Last week, China unveiled an official map showing the South China Sea as an integral part of the country. The new map, which is designed to enhance awareness of China’s territorial claims stretching down the coasts of Vietnam, Malaysia and the Philippines, deepens concern that the China Seas are beginning to resemble central Europe in the early...

    4
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    Gavekal Research

    Buried Krugerrands Or Outperforming Emerging Markets

    Approaching 2014’s half-way mark most major asset classes have returned between 3% and 6% over the year to date. There are two outliers: Japan, which has lagged other markets following 2013’s gains, and precious metals, which have outperformed. So far this year gold is up 9.4%.

    4
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    Gavekal Research

    Five Corners (25 June)

    In the latest bi-weekly review of global economics and investment:

    0
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    Gavekal Research

    Rising Velocity Is Driving Markets

    As we approach the half-year mark for 2014, it is remarkable how well asset markets have performed this year. Pretty much every major asset class has registered decent gains. US bonds? The long end of the US government bond market is up by 10%, even after the recent mild sell-off. Commodities? The CRB index is up by 8.6%. Global equities? The world MSCI is up by 6%.

    2
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    Gavekal Research

    The Hong Kong Crisis That Isn’t

    Over the weekend 700,000 inhabitants of Hong Kong, China’s dominant international financial center, voted in an unofficial referendum calling for full democracy and universal suffrage in the territory from 2017. The poll comes just over a week before a pro-democracy movement known as Occupy Central—or Occupy Central With Love And Peace, to give it its full name—has threatened to blockade key roads in the city, bringing the main financial...

    0
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    Gavekal Dragonomics

    Healthcare: From Demand To Supply

    The moment has come for China’s healthcare sector. As the nation’s economy shifts onto a slower growth trajectory, the boom sectors of the previous decade or two are in retreat, and domestic and foreign investors are looking for new growth areas. Healthcare fits the bill: the economic properties of healthcare mean that, at least over the longer term, demand for health services will grow at least as fast and probably faster than the overall...

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    Gavekal Research

    5C China: Broccoli Or Cheesecake?

    It’s now official. In a speech delivered in London, China’s Premier Li Keqiang said his government “can guarantee economic growth won’t slip below 7.5%” this year. It’s the first time he has stated explicitly that Beijing regards 7.5% as its floor for growth in 2014. Until last week he had maintained that a moderate slowdown would be tolerable and that the government was focused more on the quality than the quantity of China’s GDP.

    0
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    Gavekal Dragonomics

    More Postcards From The Edge Of Sichuan

    Two years ago, we visited a small rural county near the southern edge of Sichuan province, whose residents and officials were able to give us some insights as to how central government policy was being implemented at the grassroots level (see Postcards From The Edge Of Sichuan). Since then, a new administration has come to power, which is trying to shake up how local government works. So we recently paid a return visit to the place we call...

    2
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    Gavekal Research

    Indonesia Ups The Ante On Resource Nationalism

    The China-driven resource boom over the past decade has created great wealth in developing countries with big mining industries. It has also created a move toward “resource nationalism,” as countries seek to capture more of the value of their natural resources by clamping down on exports of raw ores and forcing investment in domestic smelting and processing plants. The poster child for this movement is Indonesia, which banned exports of many...

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    Gavekal Research

    China Property: How Bad Can It Get?

    The critical question in China today is the direction of the property market. Are we finally seeing the long overdue, bloody end to a mammoth housing bubble? Or is this simply a cyclical correction, similar to previous downturns in 2008 and 2012, that will quickly reverse after modest price cuts and an easing of credit?

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    Gavekal Research

    New York Seminar June 2014 - Louis, Anatole & Andrew

    We held our summer seminar in New York on June 10, with Anatole, Louis and Andrew offering their take on the state of the world economy and financial markets. We were also joined by Henrik Christensen who is director of Robotics at Georgia Tech. Audio recordings of their discussions are available below:

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    Gavekal Research

    A Chinese Bretton Woods?

    Even as it plants offshore oil rigs and rams foreign vessels in disputed waters, China is wooing its neighbors with infrastructure investment. Its next step is to create new multilateral banks whose twin goals are to allay fears about Chinese expansionism and to provide an alternative to the US-dominated system of development finance.

    2
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    Gavekal Research

    The Risks Of Selective Easing

    The Chinese government is finally getting worried about the economy. Following a series of inspection tours, Premier Li Keqiang has clearly signaled that he doesn’t want growth to slow much from the current rate. The State Council has asked the People’s Bank of China (PBOC) and various ministries to take supportive measures. The central bank is complying, reluctantly, but the risk is that its minimalist moves both fail to support growth and...

    0
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    Gavekal Dragonomics

    The Capital Spending Crunch Continues

    For an economy so reliant on investment, China suffers from a strange dearth of accurate and timely ways to gauge businesses’ capital spending. The most common reference—monthly data on fixed-asset investment—has been painting a bizarrely rosy picture, with nominal growth steady around 20% for years. In reality, investment has slowed very sharply since the big stimulus of 2009, as it takes only a glance at the current suffering of the heavy...

    0
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    Gavekal Research

    5C China: Squeezing Shadow Credit Is A Risky Business

    Last week the central authorities launched an investigation into a trading company in the port city of Qingdao, which supposedly pledged stocks of aluminum and copper multiple times to secure foreign currency bank loans. The immediate impact was a 5% fall in the copper price, which historically derived some support from the metal’s use as collateral in Chinese financing deals.

    0
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    Gavekal Research

    Overcoming The Macro Breakdown

    The financial crisis of 2008-2009 heralded a golden age for macro investors. As the wholesale market crash rendered the relative value judgments of stock pickers irrelevant, macro investors enjoyed a boom time—especially ones who had had the foresight to short US housing, global financials, or eurozone peripheral debt. Now, as the crisis recedes further into the rear view mirror, macro investors are struggling to adapt to a world in which...

    0
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    Gavekal Research

    Growth & Markets Monthly (June 2014)

    Having watched our growth indicators soften over recent months, we are now witnessing a momentum shift since our economic activity indicators have perked up markedly. Moreover, the velocity of money has risen rapidly, while our price indicators continue to show lessening deflationary pressure. Hence, it was not surprising to see that bonds are getting more expensive. Unfortunately, equities are not cheap, and this makes it a challenging...

    0
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    Gavekal Dragonomics

    CEQ: Investment Abroad — The Dragon Steps Out

    China is now the world's third biggest source of outward direct investment, and the things it is buying are rapidly changing. Gone are the days when Chinese outward investment was all about state-owned enterprises buying oil wells and iron ore mines. There are still plenty of state-driven resource deals, but 40% of Chinese direct investment is now conducted by private firms, who are mainly interested in consumer, technology and service...

    0
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    Gavekal Dragonomics

    How Much Pain For How Much Gain In China?

    Xi Jinping and his colleagues have been running China for a year, and they face a crucial set of decisions. They have reined in runaway credit growth and intimidated opponents of structural reforms with an anti-corruption drive of remarkable ferocity. Now the economy is growing at its most sluggish pace in 15 years, and a further slowdown is certain. How much more economic pain are the leaders willing to endure, and how much structural gain can...

    1
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    Gavekal Dragonomics

    CEQ Q2 2014

    Growth in 2014 will slow more than policymakers anticipated. It is almost certain that the 7.5% real GDP growth target will not be met, and a fall below 7% ispossible. The slowdown is led by property investment; consumption and exports are holding up well and the labor marketis still tight.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - A Portrait Of China's Gilded Age

    Age of Ambition: Chasing Fortune, Truth and Faith in the New China, by Evan Osnos (Farrar, Straus and Giroux, 2014)

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - One-Child Policy, Foreign Companies

    Relaxing The One-Child Policy: Too Late, Too Little

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - The Winding Road To Interest Rate Liberalization

    Bank deposit rates are among the last major controlled prices in China. To keep the economy humming, they need to be deregulated. This will require deposit insurance, a new policy interest rate—and a plan to avert financial crisis.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - China's Expanding Empire In Laos

    China’s economic influence in Southeast Asia is rising, and smaller countries in the region must figure out how to extract maximum benefit without becoming vassal states.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - Aid To Africa: Helpful Or Harmful?

    Critics have long argued that Chinese aid to Africa is self-interested and perhaps even harmful for African states. A close study of the data suggests the truth is much more complicated.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - America, Land Of Opportunity

    China’s outward direct investment is rising rapidly, and the United States is getting a bigger share of those flows—US$14 bn last year. But unless China opens its own doors wider to foreign investment, a political backlash could emerge.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - How Much Pain For How Much Gain

    Economic growth is slowing, structural reform has only just begun, and a severe anti-corruption campaign is sowing fear and uncertainty.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - More Deals, More Players

    The face of China’s outward investment is changing: state-owned firms still pour plenty of money into big-ticket resource deals, but private firms are rapidly catching up, investing in consumer goods, technology and services. And developed countries, not emerging markets, are the big beneficiaries.

    0
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    Gavekal Dragonomics

    CEQ Q2 2014 - Whatever Became Of China, Inc.?

    Some used to worry that “China, Inc.”—Chinese resource companies, state-owned banks and government agencies working in concert—would “lock up” energy and mineral resources around the world. Those fears proved misplaced, thanks to miscues by Chinese firms and changing market conditions.

    0
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    Gavekal Dragonomics

    Rethinking The One-Child Policy: Too Little, Too Late

    Relaxing the one-child policy has emerged as the most concrete and popular policy change following the Third Plenum meeting in November 2013. Yet the initial public reaction has been lukewarm, and there is no chance of a new baby boom. The policy change both came too late and was too little to change the nation’s demographic trajectory.

    0
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    Gavekal Research

    China Becomes A Willing Seller

    Tea-leaf reading is all the rage in Beijing again. With a deepening correction in the housing market promising to significantly drag on China’s growth this year, every utterance of the political leadership is being parsed for clues as to how and when the government might respond. The tone does seem to be changing: Premier Li Keqiang this week has repeated his usual bromides on “fine-tuning” policy as necessary, but without his previous emphasis...

    0
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    Gavekal Research

    Drumroll To The ECB Meeting

    Yesterday the yield on 10-year US treasury bonds broke downward through 2.5%, its floor ever since last summer’s ‘taper tantrum’. There were two main catalysts for the move. First, there was renewed weakness in the renminbi, as the offshore CNH set a new low for the year with US$-CNH rising to 6.27. Second, there was poor data from Germany and, especially, France, where the ranks of the unemployed continued to expand. Looking at the evolution of...

    0
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    Gavekal Research

    Five Corners (28 May 2014)

    In the latest bi-weekly review of global economics and investment:

    0
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    Gavekal Research

    The Earnings Expectations Paradox

    When it comes to global equity investment, all markets are not equal. Over the last couple of years, investors have evolved distinctly different attitudes about how to discount trends in profit growth in each of the four major equity market regions.

    0
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    Gavekal Dragonomics

    Testing The Reformers’ Resolve

    The outlook for China’s growth this year is deteriorating, thanks to a deepening correction in the property market. This will test the government’s stated desire to focus on structural reforms rather than once again stimulating growth. In this concise presentation, we summarize our current views on the economy and policy. Much depends on how extended the downturn in property is: with a contained cyclical correction, the government is unlikely to...

    5
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    Gavekal Research

    A Grand Bargain

    In the run up to this week’s meeting between Russian President Vladimir Putin and Chinese President Xi Jinping, expectations had run high that 20 years of discussions could be concluded with an agreement for Russia to pipe natural gas to China. Russia’s deputy energy minister even stated last week that a contract was “98% ready.” The long history of inconclusive China-Russia negotiations on the issue suggested that his was an overly optimistic...

    0
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    Gavekal Research

    5C Overview: Keeping China In Check

    How much should we worry about China’s increasing assertiveness beyond its borders? Provocations continue to pile up in maritime Asia, most recently a spat over a Chinese oil rig in what Vietnam considers to be its waters. And last week’s Xi Jinping-Vladimir Putin summit in Shanghai, capped by the signing of a long-delayed US$400 bn gas pipeline deal, conjured the specter of a Sino-Russian concert enabling both countries to defy the United...

    0
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    Gavekal Research

    A Grandmaster At Work

    “Check-mate”. As Vladimir Putin signed Russia’s historic US$400bn gas-supply agreement with China, he must have felt the satisfaction of a chess grandmaster revealing the inexorable outcome of a complicated endgame. In theory, the next phase of the chess game between Russia and the West in Ukraine will only begin with the Ukrainian presidential election on Sunday, but Putin’s positioning of the pieces means the outcome is preordained, whoever...

    1
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    Gavekal Research

    5C China: A Dysfunctional Market, And Far Too Small

    Last week, the Ministry of Finance gave permission for 10 local governments to issue bonds worth RMB109bn directly to the market. At first this looks like a breakthrough for fiscal reform. But it is too early to celebrate. The approved issuance is small, even compared with the RMB400bn quota in this year’s budget, and the initiative is beset by problems.

    0
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    Gavekal Dragonomics

    The Culprits Behind The Housing Correction

    With this year’s correction in the Chinese housing market spreading, the search for the villain of the piece is on. Most market analysts were primed to expect problems in the numerous small, isolated cities that have overbuilt housing and are swimming in excess inventories. Both our own research and much other analysis has shown that smaller cities have serious problems, thanks to an unhappy combination of weak population growth and government-...

    0
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    Gavekal Research

    A Supply-Sider’s View Of China

    Let’s conduct a simplified thought experiment. Imagine a country where there are two types of capex: capital spending used for building infrastructure and capital spending deployed in favor of other private sector activity. By rights, money should go to those projects with the higher return on invested capital. The problem is that most returns from infrastructure accrue to third party users of the asset (so called “externalities”) and not to its...

    6
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    Gavekal Research

    How To Lose The Eastern Front

    Russia, it appears, has emerged victorious in Ukraine. After the unofficial referendums organized by pro-Russian groups in Ukraine’s eastern regions, Kiev knows it must negotiate with the separatists to avoid national disintegration. A deal on autonomy for parts of Donetsk and Luhansk will have to be made on terms acceptable to Vladimir Putin.

    0
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    Gavekal Research

    The Case For (Some) Emerging Markets

    Investors in emerging markets need to focus on three main things: nominal GDP growth in US dollar terms, valuations and leverage. The problem is that over the last decade, most EMs enjoyed very strong nominal growth in US dollar terms, in which valuation and currency played a bigger role than real growth. That game has run its course and the key to success in the coming period is identifying those markets with strong real growth prospects that...

    0
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    Gavekal Research

    Five Corners (14 May 2014)

    In the latest bi-weekly review of global economics and investment:

    0
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    Gavekal Research

    Constructing The Profit Cycle

    As housing goes, so goes China’s economy. The last couple of painful downturns in domestic growth, in 2008 and 2012, were largely driven by downturns in housing and new construction. While real estate and construction are large sectors themselves, the real reason for this broad economic impact is how much the sales and profits of other business sectors depend on construction activity. The latest data for April—housing sales falling 16% YoY, and...

    0
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    Gavekal Research

    EM Carry Trade Looks Vulnerable

    Over the last two months, emerging markets have delivered a handsome rally, with the MSCI emerging markets index recording a 7% return in US dollar terms, compared with just 1% for the developed markets. The trouble is that this rally has been driven primarily by investors’ growing enthusiasm for carry trades in an environment of declining global volatility. Experience teaches this is an engine which can all too suddenly be thrown into reverse

    5
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