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    Gavekal Research

    Russia's Stagflation Dilemma

    Given the escalation of East-West tensions in Europe it is hard to consider Russia’s prospects without obsessing about the impact of economic sanctions. However, the exogenous shock from Ukraine has hit an economy that was already reaching the limits of its chosen development model. In particular, Russia faces a stagflation problem which is pitting a sensible monetary policy against an increasingly cavalier fiscal approach.

    0
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    Gavekal Research

    History Favors A Flatter US Curve

    Futures market pricing suggests the Federal Reserve will remain accommodative well into 2015, with the first US rate hike still nine months away. Yet in recent days expectations of Fed tightening while other central banks are easing have pushed the US dollar to a 14 month high against the euro and a 6 year high against the yen. This divergence of views makes positioning tricky. However, investors looking for a risk-managed way to ride the Fed’s...

    2
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    Gavekal Research

    Quarterly Strategy Chart Book - Three Views of A Fragile Europe

    As we see it, the most significant investment development over the last two quarters has been a renewed bout of economic weakness in the eurozone. This is all the more worrying since the rest of the world economy looks to be set on a recovery path. As a result, European growth assets have performed miserably, while eurozone bond yields keep making new lows. As we consider the path ahead for Europe, we can see three distinct scenarios: (i) Slow...

    4
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    Gavekal Research

    QE & Bull Markets

    A client recently asked a deceptively simple question: does quantitative easing always lead to a bull market in financial assets? There was, of course, a background context to the enquiry which was last week’s much anticipated deflation-slaying action by the European Central Bank.

    3
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    Gavekal Dragonomics

    The Slums Are Still With Us

    One of the paradoxes of China’s housing market is that excess supply in many areas coexists with a shortage of housing for the worst-off. We have long argued that a significant portion of the Chinese urban population is under-housed, lacking access to modern living arrangements. Given continued worries over excess housing supply in China, we recently decided to test this analysis by re-estimating the housing stock from different data sources....

    15
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    Gavekal Research

    The UK Now Faces Years Of Volatility

    The probability that the United Kingdom will break apart now appears to be at least 50%. The weekend’s crop of opinion polls agree with each other, and support last Tuesday’s poll showing a powerful swing in favor of a ‘Yes’ vote in next week’s referendum on Scottish independence. Given that up until last Tuesday most investors and analysts (including me) saw no more than a 10%-20% probability of independence, what has happened in the past few...

    3
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    Gavekal Research

    The Tipping Point

    The European Central Bank has reacted strongly to weaker than expected growth and inflation numbers, just as ECB president Mario Draghi repeatedly promised it would (see Believe in the ECB). The reflationary package delivered in June and substantially augmented and enhanced yesterday should finally convince most investors that the ECB is ready to do whatever it takes to reflate the economy, with or without Bundesbank approval. Fussier observers...

    0
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    Gavekal Research

    From Grandmaster To Grand Farce

    At first glance, Vladimir Putin’s strongman status was confirmed by the release of a seven point peace plan yesterday that reputedly had him call for Ukrainian troops to withdraw from areas of their own country. This followed Putin’s demand over the weekend that Kiev begin independence talks for southeastern Ukraine. These are the new realities that NATO leaders must chew over during a summit that starts today and is being billed as the most...

    12
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    Gavekal Dragonomics

    CEQ: Is It Safe? Pollution And Food Safety

    Unbreathable air and toxic food top the list of urban China's anxieties, and the government has finally started to take notice. Since taking office in 2013, President Xi Jinping and Premier Li Keqiang have aggressively stepped up efforts to clean up the polluted skies and improve the safety of the food supply. The air pollution efforts have borne some fruit: average levels of fine particulates fell by 9% in the first half of 2014. But a lot...

    0
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    Gavekal Research

    Scottish Poll A 'Yes' Vote For Volatility

    Until this week almost nobody outside Scotland took very seriously the possibility that Europe’s most stable and durable nation, the only big country on earth not to have suffered invasion, revolution or civil war in the past 300 years, might soon be wiped off the map. It now seems quite conceivable, however, that the United Kingdom of Great Britain and Northern Ireland will cease to exist within two or three years of the referendum on Scottish...

    4
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    Gavekal Research

    Europe: A Republic Of Voices

    Another year, another eurozone crisis. Perhaps crisis is too strong a word, but the economic news from Europe over the summer has been consistently disappointing. In his speech at the Jackson Hole central bank conference a couple of weeks ago, European Central Bank chief Mario Draghi sounded the alarm, demanding that European governments adopt more active fiscal policies to push up aggregate demand and boost growth. His call stoked expectations...

    1
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    Gavekal Research

    Five Corners (3 September): World Labor Markets

    In our latest bi-weekly review of global economics, we take a searching look at the forces affecting labor markets in the world’s major economies. How robust are the medium term prospects for wage growth? And how will the longer term forces of ageing populations and increasing automation affect the outlook for jobs? Overview: Arthur Kroeber examines how the wage-positive influence of developed world demographics will balance the job-negative...

    1
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    Gavekal Research

    Killing Democracy To Save Capitalism

    Beijing is tightening its control over Hong Kong’s institutions and political processes. Last week anti-corruption agents raided the homes of three of the city’s prominent pro-democracy figures. Then on Sunday Beijing handed down a long-awaited decision on constitutional development which crushed the city’s hopes for open elections. China’s increasing influence over the nominally-autonomous territory is deeply resented by many in the former...

    0
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    Gavekal Research

    Market Review: A Summer Series

    In late July and early August Anatole went up the mountain so to speak and penned a series of articles that aimed to explain where we were in the current market cycle, and more importantly where we are likely headed. With most major asset classes continuing to head higher we thought it worth republishing Anatole’s consolidated thinking in a single document. Please click on the pdf link above, or, alternatively, the articles can be read...

    2
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    Gavekal Research

    Growth & Markets Monthly (September 2014)

    This month we note a slight deterioration in our global growth indicators, which probably mirrors the significant economic deceleration seen in Europe. On the risk side, markets do not appear stressed, although there has been a slight widening in the US corporate spread (albeit from very low levels). On the question of inflation vs deflation our indicators offer a mixed picture: on the one hand our diffusion index of US CPI components keeps...

    0
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    Gavekal Dragonomics

    CEQ Q3 2014

    “Selective easing” of monetary policy temporarily boosted GDP growth. Premier Li Keqiang has shifted emphasis away from structural reform and toward supporting growth. Credit growth picked up in Q2 and fiscal spending accelerated, enabling GDP growth to rebound modestly to 7.5%. But the cyclical support is not enormous and growth will likely slow again in early 2015.

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Stirring Dragon, Nervous Neighbors

    Asia’s Cauldron: The South China Sea and the End of a Stable Pacific by Robert D. Kaplan (Random House, 2014)

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Food Security, China Corruption, Asia Pacific High Anxiety

    A New Line On Food Security

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Beijing Eyes The Bay Of Bengal

    China wants to build road and rail links from Yunnan all the way to Kolkata, thus securing a virtual western seacoast. Myanmar and India want the investment but are wary of the strategic implications.

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Keeping The Dinner Table Healthy

    After enduring milk powder laced with industrial chemicals and pork tainted with dangerous steroids, Chinese consumers are ramping up demand for imports and organics. Local firms are responding by consolidating markets and upgrading their technology, and the government is tightening food safety rules.

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Bringing Back The Blue Sky Days

    After Beijing’s infamous Airpocalypse, Premier Li Keqiang declared war on air pollution. Official data show surprising progress in the past year. To sustain this progress, the government must embrace more systematic and market-oriented approaches.

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - A Real War, More Ammo Required

    China’s pollution problems may not be the worst in history, but they are bad enough. Progress in correcting them has been real but inconsistent. Loud commitments by the new leadership, and a tough new environmental law, offer hope of a faster clean-up.

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Summertime, And The Jailin' Is Easy

    Xi Jinping’s war on corruption is far more than just a cynical power-play. Will it work?

    0
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    Gavekal Research

    5C Europe: The ECB Effectively Has A Dual Mandate

    It has been a recurrent demand of Keynesians that the European Central Bank switch to a US-style dual mandate that targets inflation and unemployment. But at a time when price deflation seriously threatens, such a distinction becomes merely one of semantics. If the eurozone really is to return to the official [2%] definition of price stability then unemployment will necessarily need to decline sharply (see the chart below).

    0
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    Gavekal Research

    5C China: Wage Growth Still Solid For Now

    As China’s economic growth has downshifted over the past few years, one of the big surprises has been the absence of bad news from the job market. Wages are still rising at double digit rates, and employers still have trouble filling vacancies. The reason, as is now widely understood, is that the structural slowdown in investment growth is happening at the same time as a structural shift in the labor market. Changing demographics and the...

    0
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    Gavekal Research

    The Eurozone Funk Deepens

    Europe’s political leaders may be talking about fresh sanctions on Moscow, but the continent’s remaining economic optimists are fast capitulating in the face of Russian aggression in Eastern Ukraine. Both the European Commission’s eurozone economic confidence survey and the INSEE French business confidence survey, released late last week, deteriorated in August, with the EC survey slumping to its gloomiest reading this year. This decline in...

    4
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    Gavekal Research

    5C Asia: Japanese Labor Market Dilemma

    Japanese policymakers face a dilemma that at first glance looks extremely welcome. A labor market which has reached its tightest point since the early 1990s should help the Bank of Japan achieve its inflation target. The issue is that an absence of appropriately skilled workers threatens Japanese companies’ ability to expand their operations.

    0
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    Gavekal Research

    5C Overview: Demography vs Technology

    We have written a lot about two trends with big potential impacts on the balance of power between labor and capital. The first is demography, which since World War II has been a tailwind for growth, but is now turning into a headwind. Virtually every major economy faces a steep fall in its worker-to-retiree ratio, even the US which is often thought to be exempt from demographic destiny because of its relatively high birth rate and openness to...

    0
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    Gavekal Research

    5C US: Cutting The Slack

    Federal Reserve chair Janet Yellen opened her speech in Jackson Hole with the fairly obvious assertion that the labor market has made major improvements but has yet to recover fully. We agree. Our preferred cyclical labor market indicator, the employment-to-population ratio for core working ages 25-54, has risen to 76.6% from the trough of 74.8% in late 2010, but it is still way below its pre-crisis peak of 80.7%.

    0
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    Gavekal Dragonomics

    CEQ Q3 2014 - Small Business To The Rescue?

    Premier Li Keqiang’s most successful economic reform so far is deregulation that has led to a surge in registrations of new private businesses. The next step will be to let these little companies become big ones.

    0
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    Gavekal Research

    Hello US Capital Spending?

    The US has managed a steady but sub-par economic recovery with the crucial missing ingredient being a sustained pick-up in capital spending. There is some evidence this may be changing since yesterday’s second revision for 2Q14 GDP pointed to the main two engines of investment spending starting to fire simultaneously. It may be too early to declare the start of a new capital spending cycle, but for pretty much the first time since the post-2009...

    0
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    Gavekal Research

    China Avoids A Summer Soft Patch

    Has China’s growth hit yet another soft patch? Growth disappointed early in 2014 as a property downturn led to severe pain in construction and heavy industry, prompting the government to ease up on fiscal and monetary policy. Better data in May and June seemed to show that looser policy had succeeded—until a suite of surprisingly weak readings in July raised the prospect that the mini-recovery had just been a mirage. Particularly concerning was...

    0
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    Gavekal Research

    The Shifting Sands Under US Homes

    The US housing market seems to be coming off the boil with the latest national price measures pointing to significantly reduced gains. The worry is that professional investors are pulling back from the market as the share of home purchases made with cash fell to 37.9% in 2Q14 from a high of 42% the previous quarter (see report). Private equity firms such as Blackstone Group, the largest private landlord in the US, have bought an estimated 200,...

    2
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    Gavekal Research

    A Less Stressful Way To Short The Euro

    The euro has now been ‘oversold’ on an RSI basis for more than a month, and the downside momentum seems to be accelerating. That should be no surprise given the poor relative economic performance of the eurozone, the increasing likelihood that the European Central Bank will soon be forced to embrace quantitative easing, and the chances that France, Italy and Portugal will resort to more aggressive fiscal stimulus. What’s more, German bund...

    2
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    Gavekal Research

    Some LBJ Wisdom Applied To France

    Lyndon B Johnson once said: “Did you ever think that giving a speech on economics is a lot like pissing down your leg? It seems hot to you, but it never does to anyone else”. The same may be true of writing about French politics. Yesterday, the French government resigned and the CAC 40 jumped more than 2% while French bond yields made new lows. Clearly, the market was unfazed. Perhaps it was even cheering the departure of economy minister...

    2
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    Gavekal Research

    Dialing Back Our India Bullishness

    As India’s new government reaches the 100-day mark it remains unclear whether the improved political mood music is enough to kick-start a fresh investment cycle. Investors are, for now, keeping the faith as inflation moderates and growth stabilizes. Narendra Modi’s government has avoided grand initiatives but is creating the impression of administrative competence. The wrinkle in this nicely spun tale of emerging market redemption remains the...

    0
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    Gavekal Research

    Stagnation, Default Or Devaluation

    Last week’s Jackson Hole meeting helped to highlight a simple reality: unlike other parts of the world, the eurozone remains mired in a deflationary bust six years after the 2008 financial crisis. The only official solutions to this bust seem to be a) to print more money and b) to expand government debt. Meanwhile, Europe’s already high (and rising) government debt levels and large budget deficits raise the question whether we should worry...

    0
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    Gavekal Research

    Europe’s Equity Outlook

    The ugly GDP numbers reported in the eurozone over recent weeks have shocked forecasters and unnerved policymakers. Growth averaged only 0.5% annualized in 1H14, which is about half the consensus estimate (including my own view). And given heightened geopolitical tensions it is clear that the growth outlook may be clouded for a while.

    0
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    Gavekal Research

    Is Korea Turning Japanese?

    History may not repeat itself, but as we know it does sometimes rhyme. Today South Korea is burdened with heavy private sector debts and dismal demographics—the same macroeconomic forces that plunged Japan into its lost decades. In the absence of any major consolidation in the bloated and inefficient domestic service sector, and without any large scale clean up of non-performing loans, Korea will face similar deflationary pressures as the...

    1
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    Gavekal Research

    The US Dollar Breaks Out

    Is there a more consensus trade then being bullish on the US dollar? With a) the US economy outperforming those of Europe and Japan, with b) the Federal Reserve looking to withdraw some of the extra-ordinary stimulus that it has deployed in the past five years, just as the need for the European Central Bank, and possibly the Bank of Japan, to become a lot more aggressive becomes ever starker, with c) the Pentagon limiting its defense spending...

    5
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    Gavekal Research

    Iron Ore’s Battle Of Attrition

    Iron ore prices in China are down almost 30% this year, and have languished below US$100 a ton for three months—an unusually protracted downturn in a volatile market. Last year I argued that the iron ore price would stay around US$120 for the next three years, with a relatively high floor set by the rising production cost of Chinese ore, and the reluctance of global miners to invest in new supply capacity. Is this year’s price plunge a temporary...

    0
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    Gavekal Research

    The US Consumer Lives, Really

    Even as US real wage growth has picked up over the last 18 months, consumption spending has been slow to respond. The relatively weak state of the US consumer, once the irresistible force pulling along the global economy, has emboldened those advocating a ‘secular stagnation’ thesis. But is this really a fair analysis? The answer has a particular relevance as central bankers gather for the Federal Reserve’s annual Jackson Hole shindig and...

    0
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    Gavekal Research

    Five Corners (20 August): Velocity Of Money

    In the latest bi-weekly review of global economics and investment we focus on the velocity of money and the credit cycle in the major economic regions: Overview: Charles Gave notes with concern the downturn in the Gavekal Velocity Indicator. US: Will Denyer looks where the US is in the credit cycle and argues it looks more like 2004 than 2007. Europe: François Chauchat argues that contrary to popular belief Europe’s long credit crunch is...

    0
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    Gavekal Research

    The Cantillon Effect (And The Inevitable Demise of Financials)

    Richard Cantillon, an Irishman who spent much of his life in France, only wrote one book (Essai sur la Nature du Commerce) that was published after his death in the early 18th century. It proved a groundbreaking text in the history of political economy and had a huge influence on the likes of Knut Wicksell, the Austrian school and the great Irving Fisher.

    5
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    Gavekal Research

    A Spectacular Eur-Asian Divergence

    Financial markets are nothing if not a real time survey of real people playing with real money. Hence, no one can seriously doubt that markets contain a huge amount of highly pertinent information. The problem for the investor is how can this be profitably extracted?

    6
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    Gavekal Research

    What Smart ETFs Really Mean

    Anatole recently made the case that the world’s equity markets will likely be driven by valuations in the near to medium future (see A Return to Valuation-Driven Markets). Such a shift would mark a stark contrast to the last five years, when markets moved almost exclusively on changes in investors’ perception of economic growth and from shifts in global liquidity (especially central bank policies).

    1
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    Gavekal Dragonomics

    The Mystery Of Provincial GDP

    Among all the criticisms on the accuracy of Chinese statistics, the most famous and obvious one is that the sum of China’s provincial GDP is always substantially higher than the national figure released by the National Bureau of Statistics. This reflects the fact that GDP is the most important criterion used to evaluate local government officials, so they have a strong incentive to gussy up their numbers.

    0
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    Gavekal Research

    France By The Numbers

    It is sometimes said that France has 60mn subjects and twice that number if subjects of discontent are counted. Unfortunately, the ranks of the miserable were likely swollen by yesterday’s bad French GDP numbers. The data reflects the growing unhappiness among businesses that was nearly captured last month by the head of France’s biggest private sector employer’s group. “No more investments are being made and there is no job growth. What I see...

    10
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    Gavekal Research

    How To Play QE In Europe

    The string of dismal second quarter data that emerged from the eurozone’s core on Thursday has left investors facing a quandary. Clearly the woeful GDP prints from Germany—down -0.2% quarter-on-quarter—and France—which stagnated for the second quarter in a row—make it more likely that the European Central Bank will embark on full-blown quantitative easing in the coming months, and sooner rather than later. But while the probability of QE is...

    4
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    Gavekal Research

    5C Europe: The End Of The Credit Crunch

    While markets are already speculating on how much more the European Central Bank must do to address the risks of prolonged economic stagnation, there is at least one key area where its policy is bringing results. After years of banks recapitalizations, two years of collapsing funding costs, and ahead of the publication of the asset quality review at the end of October, the ECB’s strategy for restoring the conditions for credit growth seems to be...

    1
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    Gavekal Research

    Japanese Reflation's Broken Link

    Japan’s gross domestic product shrank -6.8% in annualized terms in the second quarter; a reflection of the contraction in domestic demand following the hike in Japan’s sales tax from 5% to 8% at the beginning of April. The good news is that the headline figure was not quite as bad as economists expected. But the list of bad news is a long one. The second quarter saw the biggest decline in output since the 2011 earthquake, and the slowdown in...

    0
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    Gavekal Dragonomics

    Beijing Eyes The Bay Of Bengal

    Under President Xi Jinping, Beijing is pursuing a foreign policy with one grand aim: to restore China’s historical status as the dominant power in Asia. In the South China Sea, this shift towards a muscular, “proactive” diplomacy has intimidated and angered its neighbors (see Perilous Seas). Yet Beijing knows that it cannot simply bully its way to Asian domination: it must offer carrots as well as sticks. So along its southern and western...

    0
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    Gavekal Research

    Hearing Echoes Of 1987

    In the first four articles in this series, I explained why I believe that a structural bull market in equities began in late 2012 and is likely to continue well into the next decade (see The Case For A Structural Bull Market). But bull markets do not just keep rising without interruption. Sooner or later, equity investors are certain to suffer some large and painful losses, even if I am absolutely right about the economic, monetary and...

    8
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    Gavekal Research

    5C Overview: Time For The Defensive Team

    In the second half of last year I wrote a number of pieces that addressed the “velocity of money.” Regular readers will be aware that Gavekal places great store on this particular economic measure (defined as the willingness of the financial sector to take risk) as a key driver of asset prices.

    0
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    Gavekal Research

    5C US: Is This 2004 Or 2007?

    The tide is coming in. The US business cycle is maturing from the recovery phase to the expansion phase. Credit is growing and money is flowing.

    0
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    Gavekal Research

    5C China: Uneasy Easing Undermines Market Reforms

    How do you ease without easing? That is the conundrum China premier Li Keqiang has set for himself. After a disappointing round of July data made clear that economic recovery was still fragile, Li’s cabinet, the State Council, issued a document asking the People’s Bank of China (PBOC) and other ministries to “lower borrowing costs.” But it stopped short of signaling an interest-rate cut.

    0
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    Gavekal Research

    5C Asia: Japan, India And The Velocity Of Money

    There are two ways to look at the evolution of monetary velocity: (1) how much additional GDP can you get for each additional unit of currency circulating in the economy; and, (2) market responses to the change of velocity, which can be measured by, for example, bank shares’ relative performance. The latter can be viewed as a more timely velocity indicator.

    0
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    Gavekal Research

    Beijing's Misguided Antitrust Game

    Is Xi Jinping’s China friendly to private enterprise? The answer seems to be yes, if you are a Chinese private company, and no if you’re a foreign one.

    0
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    Gavekal Research

    What Is The ECB Waiting For?

    Banking networks have typically been built on two elements: confidence, and capital. Historically, confidence was often based on the common background of the bankers—the Lombards in Italy and France, Jews in Spain. Otherwise it relied on an institution willing to take on transfer risks (for a fee) and large enough to reassure payers that it was ‘too big too fail’; for example, the great monastic orders of the Middle Ages.

    1
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    Gavekal Research

    US 2Q Earnings Favor Industrials

    As the second quarter US earnings season winds up, the dominant picture is of stronger sales and faster earnings growth. That’s handy. In the early stages of this five year bull market, it was central bank liquidity that pushed equity prices higher. Then over the last two years, multiple expansion took over. Now, with valuations back in line with fair value, top and bottom line growth are emerging as the market’s main driving force (see The...

    3
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    Gavekal Research

    Simple Rules For Asset Allocation

    In our research, we have always made two major assumptions. The first assumption is that assets can have value for one of three reasons:

    2
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    Gavekal Dragonomics

    The Enduring Hatred Of Big Cities

    China’s government has been promising a “new-style” urbanization policy that will remedy some of the past decade’s many ills. But the ideas behind it are old: planners still seem convinced that the growth of big cities growth must be controlled, and are continuing wasteful efforts to shift resources to smaller and less productive cities.

    0
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    Gavekal Research

    The European Equity Blues

    The relative performance of European stocks has been disappointing lately. Even though the European Central Bank delivered its promised easing, triggering both a further decline in peripheral bond yields and a weakening of the euro, eurozone stock markets have underperformed the US by 6% since early June in local currency terms, and by 7.25% in US dollars. However, as Louis noted in yesterday’s Daily, there are two ways of looking at any sell-...

    1
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    Gavekal Research

    Momentum Shifts From Europe To Asia

    European equity markets have taken a beating in the last 50 days. The average eurozone stock is down 6%, while Portugal and Austria are both down more than 10%, putting them in correction territory. Germany and France are not far behind, down almost 9%. However, this broad underperformance masks a lot of intense individual pain: 20% of eurozone companies have fallen more than 20%. As always with a large sell-off, there are two approaches one...

    0
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    Gavekal Research

    A Return To Valuation-Driven Markets

    In the earlier articles in this series I argued that the medium term outlook for economic fundamentals and monetary policy is more predictable now than at any time since 2008, and possibly since the late 1990s. If I am right, then over the next year or two asset prices will no longer be driven by the economic statistics and monetary policy decisions which have dominated the post-crisis financial debate and which still obsess market and media...

    0
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    Gavekal Research

    The Problematic Pound

    The United Kingdom may be the world’s fastest-growing major advanced economy, having notched up a year-on-year growth rate of 3.1% in the second quarter. But it suffers from a clutch of seemingly intractable problems: weak productivity and wage growth, a lightweight manufacturing sector, underperforming exporters and an overdependence on domestic consumers and a frothy housing market. Behind each of these problems lies the persistent strength...

    1
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    Gavekal Research

    Five Corners (6 August): Central Bank Balance Sheets

    In our latest bi-weekly review of global economics and investment, we examine the bloated balance sheets of the world’s major central banks. We ask what exit strategies the central bankers have prepared to slim them down again, or whether expanded balance sheets are here to stay. If so, how will central bank bloat will affect investors in the coming years? Overview: Anatole Kaletsky argues persuasively that the US Federal Reserve and other...

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    Gavekal Dragonomics

    The RMB's Depreciation Is Over

    After falling by 4% from mid-February to April, the renminbi has now appreciated for three months in a row, gaining 1% against the US dollar. Since February, we have argued repeatedly that the renminbi’s depreciation was stage-managed by the People’s Bank of China in order to curb speculative capital inflows and that it would prove relatively short-lived. Following the recent gains, we are now convinced the renminbi’s depreciation episode is...

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    Growth & Markets Monthly (August 2014)

    This month saw a further improvement, albeit a small one, in our growth indicators. Risk appetite, on the other hand, now looks much more mixed compared with last month’s strong positive tendency. Also noteworthy is the recent spike in our diffusion index of US CPI components, which highlights the abatement of US deflationary pressures. On the asset side, government bonds continue to look expensive, especially in France. Meanwhile, equities are...

    2
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    Wider Spreads And Weaker Equities

    Over the past five weeks, the spread between US high yield debt and US Treasuries has widened by almost a full percentage point. Admittedly, this move could be dismissed as an overdue correction after spreads for high yield debt narrowed to unsustainably tight levels. Unfortunately, it seems that equities markets are no longer in such a forgiving mood. In the past week, the widening of high yield spreads has weighed heavily enough on equity...

    2
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    Gavekal Dragonomics

    How Resilient Are Consumers?

    It’s increasingly clear these days that China has not one economy but two: the investment-driven complex of housing, infrastructure, materials, and the consumption-driven complex of services and consumer goods. Investment was the leader for many years, but since 2009 growth in capital spending has slowed very sharply. Heavy government stimulus and easy credit has smoothed rather than stopped this slump, which does not yet look to be over. The...

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    5C Japan: No Turning Back

    Caught in a liquidity trap and beset with chronic deflation, Japan cannot rebound because real interest rates are too high. To escape the trap, policymakers must reverse expectations of price declines. This is why a credible Bank of Japan, fully committed to its 2% inflation target, is the first plank of Abenomics.

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    Turkey: From A Buy To A Hold

    Four months ago we argued that the sharply de-rated Turkish equity markets were a buy. To sum up that argument, we thought that the political risk premium was priced in, and that the conditions were right for a smooth adjustment of Turkey’s large current account deficit (see Is Turkey a Joke – or a Buy?). The bet on political and economic stabilization has been rewarded by a 40% gain in Turkish stocks from their February lows. Looking ahead, a...

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    Monetary Policy Is No Threat To Markets

    In the first two articles of this series, I argued that the US economy has now clearly reached ‘escape velocity’ and that, with little prospect of a renewed recession in the next year or two, investors are forgetting their earlier fears of secular stagnation and becoming increasingly confident about the extraordinary monetary and fiscal policies adopted by all the major world economies (see The Case For A Structural Bull Market and The Global...

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    5C China: Sticking To A Conventional Monetary Policy

    Is China’s monetary policy even looser than it seems? In July, central bank governor Zhou Xiaochuan said that in preparation for interest rate liberalization, he will introduce a new tool called pledged supplementary lending (PSL) to guide medium-term interest rates. Soon after that, local papers reported that the People’s Bank of China had used PSL to hand RMB1trn to China Development Bank to support loans for slum redevelopment programs....

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    5C Europe: Targeted Tinkering

    The European Central Bank’s balance sheet has been shrinking since the beginning of 2013, as eurozone banks have moved to repay funds borrowed via the ECB’s long term refinancing (LTRO) facility. The ECB has trumpeted the repayments as an encouraging symptom of a banking system on the mend. But as we pointed out last year, the balance sheet contraction represented a relative tightening of monetary conditions (see Draghi’s Need For Action). As...

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    5C US: The Fed's Balance Sheet: No Change Is A Big Change

    The largest balance sheet in the land will almost surely see a year of stability after the Federal Reserve’s latest round of QE purchases tapers off in October. But that stability will itself be a big change from recent years. It will be interesting to see how the market reacts.

    2
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    5C Overview: Central Banks Are Happy With Their Balance Sheet Bloat

    With the end of the US Federal Reserve’s QE3 round of quantitative easing scheduled for October, this is a good time to consider the ‘exit strategies’ central banks might follow as they think about normalizing monetary policy. While the technicalities of each country’s monetary management are different, there are two broad questions that all central banks have to answer: Can monetary policy rely solely on interest rate management, as in the pre-...

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    The US Growth Engine Sparks Into Life

    Second quarter US GDP growth came in encouragingly strong at 4% quarter-on-quarter annualized, much better than the expected 3%. At the same time the 1Q number was revised up to -2.1%. That’s up from -2.9%, but it’s still a contraction; so a strong 2Q reading was crucial to show the previous GDP number was just a blip and not the start of a slide into recession. But looking past the headlines, was this really a strong report?

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    The Unintended Effects Of Sanctions

    “I know of no instances in world practice and previous experience in which sanctions have achieved their aim and proved effective,” declared Sergei Ivanov in 2006. At the time Ivanov—then Russia’s defense minister—was criticizing US sanctions on Iran. Today he is even better placed to observe the effectiveness or otherwise of economic sanctions. As Vladimir Putin’s chief of staff, Ivanov was among the Russian president’s intimates targeted by...

    2
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    Gavekal Dragonomics

    The Last Tiger

    The big game hunter has now bagged his finest trophy. On Tuesday, the Communist Party officially announced a corruption investigation into Zhou Yongkang, a former member of the ruling Poliburo Standing Committee. Over recent months investigators have already detained many of Zhou’s relatives and associates. But no official of Zhou’s rank has been formally disciplined for corruption in the reform era, and it has been uncertain when or if he would...

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    Gavekal Dragonomics

    China: Still Waiting For The Re-Rating

    China’s equity markets are finally beginning to play catch-up. Over the first half of 2014, the Shanghai composite index and Hong Kong’s ‘H-share’ China enterprises index were the worst performing markets in the region, both recording losses while the rest of emerging Asia enjoyed a great run. Lately, however, both the Shanghai market and H-shares have showed signs of renewed vigor. Over the last five trading days both have risen by around 5% to...

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    The Global Obsession With US Data

    In the first article in this series, I argued that what is happening with the global economic cycle strongly influences investors beliefs’ about structural phenomena such as productivity, demographics, capital allocation and debt dynamics (see The Case For A Structural Bull Market). And while it will take many years to settle all the debates between bulls and bears about productivity or debt sustainability or zero interest rates, the cyclical...

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    Housing’s Quiet Period Is Over

    A turning point in China’s housing policy has arrived, half a year into a downturn in property sales and construction. Since late June, major cities such as Hohhot, Jinan, Haikou, Tianjin and Chengdu have moved to support their housing markets. This is a change from earlier months, when local governments were more hesitant and often failed to publicize their policies, limiting their effect. The central government’s implicit approval of the new...

    4
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    No Honeymoon For Indonesia's Jokowi

    In the next few days Indonesia’s Constitutional Court will rule on a challenge mounted against Joko Widodo’s victory in this month’s presidential election. All the indications are that the court will dismiss the complaint filed on Friday by defeated candidate Prabowo Subianto, who alleges massive electoral fraud. Yet if the court does throw out Prabowo’s challenge for lack of evidence as expected, Joko’s difficulties will not be over. In all...

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    Playing Emerging Asia's New High

    Some 18 months after US stocks regained the ground lost in the 2008-09 crisis, emerging Asia has finally made a new high. Yesterday the MSCI emerging Asia US dollar total return index closed above its 2007 peak for the first time, having risen 10% year-to-date. That makes emerging Asia the best performing major regional market in the world so far in 2014. If you invest equally in the countries in the index’s universe, your gains are even better...

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    The Case For A Structural Bull Market

    It’s almost three months since I recommended a ‘Buy in May’ strategy for US equities. At roughly the same time Charles reiterated his ‘balanced portfolio’ call for a long position in US equities hedged with long-dated US treasuries. Since then both equities and bonds have performed well. The S&P 500 has risen almost 6% while 30-year US Treasury bonds have gained about 3% in price.

    8
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    Gavekal Dragonomics

    Beijing Battles With Bureaucrats

    It’s official: Li Keqiang is fed up. China’s mild-mannered premier has recently been described in official press releases as “speaking in an extremely severe tone” and “shaking his fist.” The target of this display of temper: government officials who are not moving fast enough to implement economic reforms. And Li’s temper tantrums are not just for show. Nine months after the publication of an ambitious modernization agenda, many of Beijing’s...

    2
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    The Euro Has Turned

    This week the euro broke decisively below 1.35 to the US dollar to set a new year-to-date low. The last time the euro fell below 1.35 was in January, but that sell-off proved fleeting, with the currency rebounding strongly to reach a three and a half year high just of shy of 1.40 in May. In an economy battling to regain its competitiveness, that rally hurt, weighing heavily on exports and pushing inflation down to just 0.5%. In contrast, this...

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    Five Corners (23 July)

    In our latest bi-weekly review of global economics and investment, we turn the spotlight on valuations to ask whether global asset markets are cheap, fairly-priced or expensive. Overview: Anatole Kaletsky pours a large bucket of cold water over the theoretical underpinning and forecasting record of Robert Shiller’s cyclically-adjusted price to earnings ratio, currently the market’s favorite valuation tool. US: Will Denyer examines a clutch...

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    Stock Markets And Profits

    Over the long term—and I mean the really long term—stock markets and corporate profits tend to track each other nicely. Consider the chart below which with a base in 1970 shows the S&P 500 and US profits from the national accounts adjusted for inventories and capital depreciation.

    2
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    How And When To Short French Bonds

    Earlier this month I recommended—for the first time in my career—an unhedged short position in the French bond market (see It’s Time To Go Short French Bonds). For investors who are uncomfortable with such ‘naked’ shorts, there may be an alternative. They could go short the French OAT and go long the German bund. This Daily sets out the risks involved, together with a decision rule to determine timing.

    2
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    The Price Of A Diminished US Dollar

    Nature, it is said, abhors a vacuum. In much the same way, geopolitics cannot tolerate a power vacuum. So it is small surprise that as a chastened and diminished United States has retreated from direct involvement in the Middle East and adopted a less interventionist diplomatic and military stance elsewhere in the world, ambitious opportunists have stepped forward to fill the gap. In East Asia, China has assumed a far more assertive attitude...

    2
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    Gavekal Dragonomics

    The Future History Of China’s Deleveraging

    If there’s one thing almost everyone can agree about on China, it’s that its rise in debt has been very rapid, and is not sustainable. But where does China go from here? In this chartbook, we use historical examples to think about how a future deleveraging process might occur.

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    Gavekal Research

    Looking Cheap But Feeling Pricey

    One of the recurring questions Janet Yellen had to field in her congressional testimony this week was whether US equity valuations have run ahead of fundamentals. To be fair to the chair of the US Federal Reserve, this is a tough one to answer.

    2
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    Buy Indian Dips

    A week ago India’s much hailed reforming government unveiled its first budget and everyone yawned. Former Prime Minister Manmohan Singh got it about right when he said that the new finance minister’s program could just as easily have been presented by his own maligned Congress-led administration. For investors the problem was the absence of a credible fiscal consolidation plan or a road map to curtail boondoggles such as India’s vast subsidy...

    2
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    Emerging Asia's Leverage Problem

    Aggregate debt levels in Asia (ex-China) are back to levels seen just prior to the 1997-98 Asian Financial Crisis. This does not pose a near term macro-economic risk since most Asian economies have large foreign currency reserves and run flexible currency regimes. Indeed, this was the mercantilist lesson most Asian economies learnt from the late '90s crisis. Still, Joyce and KX show in this chart book that the likes of China, South Korea...

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    5C US: No Longer Cheap, But Keep Reaching For Yield

    In 2012 and early 2013, it was easy to argue in favor of selling bonds and loading up on US equities on the basis of valuations alone. Equities were extremely cheap, bonds extremely expensive, and you would have been hard pressed to find standard metrics to indicate otherwise. Even Charles, who was anything but enthusiastic about the US policy mix, suggested overweighting equities and shunning bonds. Now the valuation call is no longer obvious,...

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    5C China: Uncertainty Is The Real Problem

    Chinese equities look cheap, both in historical terms and compared with other markets. The price to earnings ratio for the Shanghai Composite has fallen from highs of more than 60 in 2007 to around 10, well below the MSCI World average of 15. But given the economic transition China is going through, neither its own history, nor other countries, are a good guide to whether current valuations are low. On examination, the earnings growth rates...

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    Gavekal Dragonomics

    Fears For China's Growth Postponed

    The Chinese government has once again successfully stabilized the economy. Spooked by decelerating growth and a property market correction early in the year, the government has spent the last few months loosening credit and rolling out supportive policies. Today’s economic data release showed the pay-off: GDP growth in the second quarter picked up slightly to 7.5%, beating expectations it would be flat at 7.4%. This means that investors’ fears...

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