CHINA ECONOMIC OUTLOOK: GROWTH, POLICY AND TRADE WAR Larry Hu Head - PowerPoint PPT Presentation

CHINA ECONOMIC OUTLOOK: GROWTH, POLICY AND TRADE WAR Larry Hu Head of China Economics Macquarie Capital Limited larry.hu@Macquarie.com +852 96358052 STRICTLY CONFIDENTIAL

Market is defined by four Games of Chicken “....My only question is, who is our bigger enemy, Jay Powell or Chairman Xi?” --- Donald Trump, Aug 2019 1. Trump vs. the Fed 2. The Fed vs. the Market 3. Trump vs. Xi 4. Xi vs. the Market Report: “3-Level Stimulus: How policy drives market performance” PAGE 2

Where we are in the cycle: 2011-12 vs. 2018-19 Jan 01=100 Jan 01=100 MSCI China MSCI China 115 125 2012 2019 2011 2018 110 120 105 100 115 95 90 110 85 105 80 75 100 70 95 65 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec PAGE 3

Every down cycle starts with tightening ytd yoy % 10 15 20 25 30 -5 0 5 Jul-10 Jan-11 Jul-11 started Tightening Jan-12 Jul-12 Jan-13 Jul-13 Infrastructure FAI Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 40 45 50 55 60 65 Jul-10 Jan-11 started Tighteing Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Manufacturing PMI Jan-14 US Jul-14 Jan-15 Jul-15 Germany Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 PAGE 4

Stocks derated under tightening % % MSCI China (12m forward): 2011 MSCI China (12m forward): 2018 10 12 PE changes EPS revision PE changes EPS revision 8 0 4 0 -10 -4 -8 -20 -12 -16 -30 -20 -40 -24 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-18 Feb-18 Mar-18 Apr-18 May-18 Jun-18 Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 PAGE 5

2.5 3.0 3.5 4.0 4.5 5.0 % Aug-10 Falling Treasury yields and rising credit spread Clogged transmission of monetary policy: Feb-11 Aug-11 started Level-1 Feb-12 Aug-12 Feb-13 10-year treasury yield Aug-13 Feb-14 Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 250 300 350 400 450 500 bp Aug-10 Feb-11 Aug-11 started Level-1 Feb-12 Aug-12 Feb-13 Aug-13 Feb-14 Credit spread Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 PAGE 6

Commodity prices fall with stocks 1,150 3,200 1,000 3,600 CRB metal index SHCOMP (RHS) CRB metal index SHCOMP (RHS) 980 1,100 3,000 3,400 960 1,050 940 2,800 3,200 920 1,000 2,600 900 3,000 950 880 2,400 2,800 860 900 840 Level-1 2,200 2,600 Level-1 850 started 820 started 800 2,000 800 2,400 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-18 Feb-18 Mar-18 Apr-18 May-18 Jun-18 Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 PAGE 7

Stimulus escalates when PMI drops below 50 % NBS manufacturing PMI MSCI China (12m forward): 2012 vs. 2019 55 30 PE changes in 2019 EPS revisions in 2019 PE changes in 2012 EPS revisions in 2012 54 Nov 2011 Jan 2015 Dec 2018 20 53 52 10 51 0 50 49 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 -10 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec PAGE 8

Treasury yields and credit spread 2.5 3.0 3.5 4.0 4.5 5.0 % Aug-10 Feb-11 Aug-11 Feb-12 started Level-2 Aug-12 Feb-13 10-year treasury yield Aug-13 Feb-14 Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 250 300 350 400 450 500 bp Aug-10 Feb-11 Aug-11 Feb-12 started Level-2 Aug-12 Feb-13 Aug-13 Feb-14 Credit spread Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 PAGE 9

Why we are now: More slowdown ahead 12mma yoy % CREIS 100-city housing prices yoy % yoy % 100-city land transaction (leading 6 months) Macau gross gaming revenue (RHS) 40 20 60 New starts 30 15 40 20 10 20 10 0 5 0 -10 0 -20 -20 -5 -40 -30 -40 -10 -60 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 PAGE 10

Not only China, but globally % yoy yoy % Global trade growth Earnings growth 7 30 China's industrial companies S&P500 Jan 2018 6 25 5 20 4 15 3 10 2 5 1 0 0 -5 -1 -10 May-11 Nov-11 May-12 Nov-12 May-13 Nov-13 May-14 Nov-14 May-15 Nov-15 May-16 Nov-16 May-17 Nov-17 May-18 Nov-18 May-19 1Q11 4Q11 3Q12 2Q13 1Q14 4Q14 3Q15 2Q16 1Q17 4Q17 3Q18 2Q19 PAGE 11

When stimulus goes to Level-3 yoy % yoy % Industrial profits Broad fiscal revenue growth 35 35 30 30 Level-3 Level-3 25 started 25 started 20 20 15 15 10 10 5 5 0 0 -5 -5 -10 1Q11 3Q11 1Q12 3Q12 1Q13 3Q13 1Q14 3Q14 1Q15 3Q15 1Q16 3Q16 1Q17 3Q17 1Q18 3Q18 1Q19 4Q10 2Q11 4Q11 2Q12 4Q12 2Q13 4Q13 2Q14 4Q14 2Q15 4Q15 2Q16 4Q16 2Q17 4Q17 2Q18 4Q18 2Q19 PAGE 12

The focus will be infra this time yoy % yoy % yoy % yoy % TSF Shadow financing (RHS) TSF Mortgage loans (RHS) 37 75 37 60 33 33 60 50 29 29 45 40 25 25 30 21 21 30 15 17 17 20 0 13 13 9 -15 9 10 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13 Jul-14 Jul-15 Jul-16 Jul-17 Jul-18 Jul-19 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13 Jul-14 Jul-15 Jul-16 Jul-17 Jul-18 Jul-19 PAGE 13

Treasury yields and commodity prices % Yuan/ton Steel prices CRB metal index (RHS) 10-year treasury yield 5.0 5,300 1,100 4,800 1,000 4.5 4,300 900 4.0 3,800 800 3,300 3.5 700 2,800 3.0 Level-3 Level-3 600 2,300 started started 2.5 1,800 500 Aug-10 Feb-11 Aug-11 Feb-12 Aug-12 Feb-13 Aug-13 Feb-14 Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 Aug-10 Feb-11 Aug-11 Feb-12 Aug-12 Feb-13 Aug-13 Feb-14 Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 PAGE 14

Trade war: China is targeting swing states and the financial market 3mma yoy % US$ mn China's imports from the US China's soybean imports from the US 350 3,000 2019 2018 Average of 2015-17 Soybeans Energy products Auto 300 2,500 250 200 2,000 150 1,500 100 50 1,000 0 -50 500 -100 Feb-18 Mar-18 Apr-18 Jul-18 Oct-18 Nov-18 Dec-18 Feb-19 Mar-19 Apr-19 Jul-19 Jan-18 May-18 Jun-18 Aug-18 Sep-18 Jan-19 May-19 Jun-19 0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec PAGE 15

Trade war: domestic politics or geopolitics? China’s hypothesis 1: Trade war is just for trade balance China’s hypothesis 2: Trade war is to contain China China's trade surplus (over the past 12 months) US$ bn 12mma yoy % 650 35 Overall US China'e exports to the US China's imports from the US 30 600 25 550 20 500 15 450 10 400 5 0 350 -5 300 -10 250 -15 200 -20 150 -25 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 PAGE 16

Trade war: domestic politics or geopolitics? Hypothesis 1 : Trade war has escalated into a 7.1 105 USD/CNY Dollar Index (RHS) currency war. 7.0 100 6.9 Hypothesis 2 : China’s economy is terrible 6.8 95 6.7 Hypothesis 3 : The PBoC grabbed the window to 90 6.6 prove line in the sand 6.5 85 6.4 80 6.3 6.2 75 Our view is 3, while trade war remains as the 6.1 6.0 70 biggest driver for the RMB Aug-10 Feb-11 Aug-11 Feb-12 Aug-12 Feb-13 Aug-13 Feb-14 Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 PAGE 17

Conclusions Jan 01=100 MSCI China 1. Policy under Level-2 now. Earnings are the 125 2012 2019 key. 120 2. Stimulus is likely to go to Level-3 in 1-2 115 quarters 110 3. Bad news is good news, as recession risk will prompt policy makers to escalate 105 stimulus and de-escalate trade war 100 95 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec PAGE 18