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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...

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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...

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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...

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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...

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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.

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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)

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    Gavekal Dragonomics

    CEQ Q2 2014 - One-Child Policy, Foreign Companies

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

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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.

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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.

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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.

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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.

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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.

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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.

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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.

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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.

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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...

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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...

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    Gavekal Research

    Five Corners (28 May 2014)

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

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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.

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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...

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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...

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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...

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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...

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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.

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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-...

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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...

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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.

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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...

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    Gavekal Research

    Five Corners (14 May 2014)

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

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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...

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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

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    Gavekal Research

    5C China: Clouds Gather Over Property Outlook

    China’s economic indicators for April showed growth holding steady, albeit at sluggish rates, in manufacturing and consumer spending. Exports are even picking up once the data problems are dealt with. But while growth may be stable for the moment the risks of a further downturn are rising, as sales and sentiment worsen in the housing market.

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    Gavekal Dragonomics

    The Search For Safe Food

    Since the horrifying melamine scandal of 2008—when 300,000 children were sickened by milk products tainted with an industrial chemical—the safety of food in China has been in permanent crisis. Hardly a month seems to pass without a media exposé of real or exaggerated problems: pesticides in produce, banned drugs in meat, cadmium in rice, the re-use of cooking oil. The result has been a dramatic and sustained shift in Chinese consumer behavior as...

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    Gavekal Research

    5C Asia: Hong Kong’s Diminished Prospects

    Even as Chinese growth has ebbed, Hong Kong has defied the downturn. The territory effectively has full employment and real wages have risen nicely. Over the last year, hot money flows continued to enter Hong Kong and tourists from across the border kept arriving. This, at least, was the case until recently when cracks started to appear in the prosperity of China’s preferred haven for tax-avoidance and luxury shopping.

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    Gavekal Dragonomics

    The Renminbi Reconsidered

    The fall in the renminbi over the last two months has prompted much anxiety. For the past nine years one of the few certainties of global markets was that the Chinese currency would end the year stronger (or at least no weaker) than it began. That certainty has been demolished—which indeed was the goal of the People’s Bank of China (PBOC) when it engineered the depreciation. There are now two questions to consider. First, how much further might...

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    Gavekal Research

    Growth & Markets Monthly (May 2014)

    For a second straight month, our growth indicators have weakened, suggesting the possibility of another summer lull. The outlier is US employment, as evidenced by last week’s very decent non-farm payroll report. We were also intrigued by the recent pick-up in US 5-year inflation expectations, which does not seem to fit with the narrative of constant deflationary pressures. Combined with recent US wage growth, could this imply that there is a...

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    Gavekal Research

    Five Corners (30 April 2014)

    In the latest bi-weekly review of global economics and investment, Arthur Kroeber considers the implications of Asian deflation. Will Denyer & Tan Kai Xian consider the strong rental market for US homes and wonder what this means for the broader housing sector. Nick Andrews looks up close at reduced liquidity in the eurozone’s financial system. Chen Long looks at a favorable convergence between national GDP numbers and the growth claims made...

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    Gavekal Research

    What Ails The Dollar

    A curious brew of cheap money, a grinding cyclical recovery and “new economy” verisimilitude has helped drive Wall Street to new highs. And yet even as equity investors have scaled the wall of worry, the dollar has remained uninspired. The unit arguably started a structural upswing in 2008 but the recent performance has been lackluster with the DXY index at the bottom of its trading range.

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    Gavekal Dragonomics

    A Supply-Side Correction In Property

    The supply side of China’s property market is looking surprisingly weak. Indicators of property developers’ desire to expand future housing supply are turning down: construction starts have fallen outright by more than 20% YoY for each of the first three months of 2014, and land purchases swung to a sharp 17% decline in March from slow growth in earlier months. This deterioration in the supply side looks out of proportion to the more gentle...

    0
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    Gavekal Research

    Beijing’s Peruvian Copper Play

    Earlier this month a consortium of Chinese state-owned companies agreed to buy a huge Peruvian copper mining project from Glencore Xstrata for US$5.9bn. The new Chinese owners will need to invest another US$2.4bn to bring the project on stream by its scheduled start date in 2015, bringing their total investment to US$8.3bn. Is this massive deal yet another example of China Inc. overpaying for resource assets? Probably not: tight global supplies...

    0
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    Gavekal Dragonomics

    What's Going On With The RMB?

    Even though the renminbi fell steeply in the first quarter, sliding 2.7% against the US dollar, capital continued to flow heavily into China. Balance of payments data published last Friday show China’s current account surplus for the period was just US$7.3bn. The capital account, however, notched up a surplus of US$118.3bn.

    3
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    Gavekal Research

    Beijing's Peruvian Copper Play

    Earlier this month a consortium of Chinese state-owned companies agreed to buy a huge Peruvian copper mining project from Glencore Xstrata for US$5.9bn. The new Chinese owners will need to invest another US$2.4bn to bring the project on stream by its scheduled start date in 2015, bringing their total investment to US$8.3bn. Is this massive deal yet another example of China Inc. overpaying for resource assets? Probably not: tight global supplies...

    0
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    Fathom China

    Profile: UnionPay: Breaking The Monopoly

    The way that billions of people pay for things is in flux across the world. No sooner had consumers grown accustomed to using bank cards instead of cash than the next big thing, online payments, swept onto the scene. In China, a giant state-owned firm called China UnionPay (“UnionPay”) has long straddled most payment channels as the only authorized bank card network. UnionPay is a government-controlled cousin to Visa or MasterCard, with its logo...

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    Gavekal Dragonomics

    Watch Capital Flows For The Central Bank’s Next Move

    How will China’s central bank respond to the country’s slowing growth? Speculation about the next move from the People’s Bank of China has been rising as economic indicators continue to be tepid, credit growth continues to slow and the currency remains weak. Similarly, in early 2012 GDP growth was also weak, credit was cooling and the RMB was depreciating—and shortly afterward the central bank cut banks’ reserve requirements and credit growth...

    0
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    Gavekal Research

    5C China: Regional Growth Gets Uglier, But More Accurate

    In China, the whole is not necessarily greater than the sum of its parts; in fact it can be less. China’s provincial GDP figures are viewed skeptically because of two obvious problems: the sum of provincial GDP is often much higher than national GDP, and most provinces report GDP growth faster than the national average. In what could be a sign of higher-quality data at the local level, both of these trends are now changing: the gap between the...

    0
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    Gavekal Dragonomics

    Defaults Are Coming: Where, When And How

    In early 2014, China’s financial markets witnessed a milestone: for the first time, issuers of local, domestic-currency corporate bonds went into default. With China’s economy slowing and many debts coming due this year, these will be only the first of many defaults on corporate bonds.

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    Gavekal Research

    5C Overview: How Much More Asian Deflation?

    The latest news from Asia’s biggest economies is uninspiring. China’s growth grinds lower, and the renminbi has declined by 3% against the US dollar since January. Japan is suffering the anticipated effects of this month’s consumption tax hike, and Anatole has predicted that the BoJ will respond later this year with a fresh round of money-printing which could push USD/JPY well above its established level of 102 to the dollar.

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    Gavekal Research

    Five Corners (16 April 2014)

    In the latest bi-weekly review of global economics and investment, Charles Gave explains why it still pays to run a balanced portfolio, despite the market’s rotation. Will Denyer argues that outlook for US consumption remains favorable, even though consumer cyclicals have taken a beating. François-Xavier Chauchat examines the reasons behind the euro’s persistent strength. Andrew Batson looks at Beijing’s new focus on jobs and finds the...

    0
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    Gavekal Research

    Running The Red Queen's Race

    By reporting the relatively low figure of a 7.4% rise in first-quarter gross domestic product, down from 7.7% in the previous quarter, China has confirmed that the current pace of economic expansion is now roughly as weak as it was during previous downturns in 2008 and 2012. While the headline number was better than market expectations, and growth clearly picked up a little in March from the lows of January and February, there are worrying signs...

    0
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    Gavekal Research

    Breaking The Bad News Cycle

    Alarm bells have been ringing over China for a while, and there have been plenty of Quasimodos to sound them. With a poorly-understood “shadow financing” system that accounts for 20% of total credit, an overbuilt real estate market, deficit-ridden local governments and under-capitalized banks, China’s financial system has been looking shaky. Financial stress, along with the relative tightness of central bank policy since last May, helps explain...

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