Canada, like many countries around the world, has been reaping the benefits of a growing and stable Chinese economy. After more than 10 years of double digit GDP growth, the foundation of China’s economy, including its corporate bond market and trade accounts, are becoming increasingly unstable. The weak Canadian dollar has allowed this relationship to blossom further in the past year or so; however, with China facing its own economic issues, it could be the Yuan which is now set to correct. This could diminish trading and buying of assets in Canada, and around the world, by China.
Canada is still considering a free-trade agreement with China, following a January visit to Ottawa by China’s Vice-Minister of Financial and Economic Affairs.
The main benefits to Canada would be in sectors such as agri-food, including pork, wine and canola. Lumber and raw materials would also be a huge benefactor. These products don’t exactly jibe with Trudeau’s recent comments at the World Economic Forum in Davos, Switzerland, where the young Prime Minister touted investment in Canada’s “diversity and resourcefulness” not just its resources. It was announced this morning that Canada’s economy gave up an unexpected 2,300 jobs in February, and the jobless rate has now reached 7.3%.
China’s economy may not be on as sound footing as its Vice-Minister of Financial and Economic Affairs led on during his recent visit to Ottawa in January.
News broke via a Reuters article this morning which reported “China’s central bank is preparing regulations that would allow commercial lenders to swap non-performing loans of companies for stakes in those firms…”
This comes a day after the ECB’s recent pledge to expand the scope of its purchase program to include“Investment-grade euro-denominated bonds issued by non-bank corporations.”
source: https://www.ecb.europa.eu/press/pr/date/2016/html/pr160310_2.en.html
Why would China be implementing such extreme measures if it was not worried about shoring up confidence or supporting its corporations?
In response to the story, Warren Allderige, chief executive of Hong-Kong based alternative investment management firm Pacific Harbor commented that:
“It shows the government is “backstopping” the banking sector. It is also a clear sign that the government is strongly supporting GDP growth by assisting weaker companies and increasing the banks’ available capacity for additional lending.”
source: http://www.reuters.com/article/us-china-banks-npls-exclusive-idUSKCN0WC0MD
China’s bond market fears are justified…
In mid-January Xia Le, the chief economist for Asia at Banco Bilbao was quoted on Zerohedge.com as stating, “The equity rout merely reflects worries about China’s economy, while a bond market crash would mean the worries have become a reality as corporate debts go unpaid.”
source: http://www.zerohedge.com/news/2016-01-13/last-bubble-standing
It is likely this fear of corporate debt defaults that has China preparing to buy toxic corporate debt.
Follow the money: China capital outflows increase
Capital outflows from China exploded towards the end of 2015 and have not abated. One of the key tactics is revealed in the below excerpt:
“Over-reporting imports is likely the most important illicit channel, according to the Deutsche Bank research, which cited official banking statistics that recorded China paying $2.2 trillion for goods imported in 2015, while China Customs data only records $1.7 trillion of imports.”
source: http://www.bloomberg.com/news/articles/2016-03-08/phantom-goods-disguise…
Capital Outflows – 5 Year Chart
chart source: http://www.tradingeconomics.com/china/capital-flows
Where is all this capital fleeing to?
chart source: http://seekingalpha.com/article/3957681-behind-chinese-capital-outflows
Peking University professor, Michael Pettis, has warned that:
“…losing $150 billion of reserves per month for a little bit longer will soon trigger a crisis of confidence.”
source: http://seekingalpha.com/article/3957681-behind-chinese-capital-outflows
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Chinese net capital outflows slowed to $65 billion in February, compared with $135 billion in January.
With commodity currencies collapsing in 2015 and into early 2016, (think the Canadian dollar, Aussie dollar, New Zealand Kiwi) Chinese were using the strong Yuan to buy up assets around the world. Take a look at the Vancouver real estate market which saw home sales rise 27% year over year through to February 2016.Is it any coincidence house prices in Vancouver are up 30% year over year while the Canadian dollar lost about 30% in the past year or so?
The turnover in Vancouver’s residential market has been sensational. Property sales totalled 41,172 in the month of February alone – up 36% from the previous year.
source: http://www.cbc.ca/news/business/toronto-vancouver-real-estate-1.3474439
If capital outflows continue at this pace in China, expect the People’s Bank of China (PBOC) to devalue the yuan in a bid to keep its money at home. This could spell trouble for Canada’s housing market, particularly in overheated markets such as Vancouver. China’s bond market and the commitment of China’s central bank to buy up bad loans could also spur a decline in yuan valuation at a time when oil and the Canadian dollar are surging.
This article represents solely the opinions of Alexander Smith. Alexander Smith is not an investment advisor and any reference to specific securities in the list referred to in the article does not constitute a recommendation thereof. Readers are encouraged to consult their investment advisors prior to making any investment decisions. The information in this article is of an impersonal nature and should not be construed as individualized advice or investment recommendations.
