Prem Watsa's 9 Observations Why There Is A "Monstrous Real Estate Bubble In China Which Could Burst Anytime"Submitted by Tyler Durden on 03/09/2014 18:12 -0400
In the last few years we have discussed the huge real estate bubble in China: "Real estate bubbles never end with soft landings. A bubble is inflated by nothing firmer than expectations. The moment people cease to believe that house prices will rise forever, they will notice what a terrible long term investment real estate has become and flee the market, and the market will crash." Amen! As they say, it is better to be wrong, wrong, wrong and then right than the other way around! In case you continue to be a skeptic, here are a few observations...
How much farther will the RMB fall? At the outer limit, perhaps as low as 6.24, but probably much less. The reasoning is as follows. Right now the spot market is trading 0.4% weaker than the central parity. So without any further move by PBC to weaken the parity, the limit is 6.18. A move below that would require PBC to adjust the parity further downward. The biggest-ever downward adjustment in the parity was 685 pips, in May 2012. If the PBC matches that move (by adjusting the current parity down another 500 pips), the RMB could fall to 6.24.
In addition to the already noted fireworks out of China, where the Yuan saw the biggest daily plunge since 2008 and the ongoing and very rapid newsflow out of the Ukraine, focus this morning was very much of the latest Eurozone CPI data, which despite matching previous low levels, came in above expectations and in turn resulted in an aggressive unwind of short-EUR bets as market participants were forced to re-asses the likelihood of more easing by the ECB. Still, even though the Euribor curve bear steepened and Bunds came under significant selling pressure, the EONIA forward curve remained inverted, signifying that there is still a degree of apprehension over what is unarguably very low inflation data.
And just like that the Chinese yuan devaluation has shifted away from the merely "orderly." In the past few hours of trading, China, which as we reported two days ago has started intervening aggressively in the Yuan market, has seen its currency crash by nearly 0.9%, which may not seem like much, but is in fact the largest drop since December of 2008, and at last check was trading at around 6.18, even as the PBOC fixed the CNY reference rate 0.02% higher from the last official close to 6.1214, erasing pivot support point at 6.1346 and 6.1408. Naturally this means that the obverse, the CNYUSD, has crashed to as low as 0.1620. Should this move sustain without reverting, this will be the biggest weekly loss ever! The dramatic move is shown on the chart below.
Credit is a wonderful tool that can help advance the division of labor, thereby increasing productivity and prosperity. The granting of credit enables savers to spread their income over time, as they prefer. By taking out loans, investors can implement productive spending plans that they would be unable to afford using their own resources. The economically beneficial effects of credit can only come about, however, if the underlying credit and monetary system is solidly based on free-market principles. And here is a major problem for today’s economies: the prevailing credit and monetary regime is irreconcilable with the free market system.
The seemingly incessant strengthening trend of the Chinese Yuan (much as with the seemingly inexorable rise of US equities or home prices) has encouraged huge amounts of structured products to be created over the past few years enabling traders to position for more of the same in increasingly levered ways. That was all going great until the last few weeks which has seen China enter the currency wars (as we explained here). The problem, among many facing China, is that these structured products will face major losses and as Morgan Stanley warns "real pain will come if CNY stays above these levels," leading to further capital withdrawal, illiquidity, and a potential vicious circle as it appears the PBOC is trying to break the virtuous carry trade that has fueled so much of its bubble economy.
For the second night in a row, China, and specifically its currency rate which saw the Yuan weaken once more, preoccupied investors - and certainly those who had bet on endless strenghtening of the Chinese currency - however this time it appeared more "priced in, and after trading as low as 2000, the SHCOMP managed to close modestly green, which however is more than can be said about the Nikkei which ended the session down 0.5%. Still, the USDJPY was firmly supported by the 102.00 "fundamental" fair value barrier and as a result equity futures, which had to reallign from tracking the AUDUSD to the old faithful Yen carry, have been propped up once more and are set to open at all time highs. If equities fail to breach the record barrier for the third time in a row and a selloff ensues after the open in deja vu trading, it will be time to watch out below if only purely for technical reasons.
Shadow banks in China come in a variety of forms and guises. The term is applied to everything from trust companies and wealth management products to pawnshops and underground lenders. What surprising is that China’s biggest shadow bank is actually a creation of the central government and receives billions in financing directly from the banks. Even more interesting, this shadow bank recently pulled off a successful international IPO where it raised billions of dollars...
(Just yesterday, the government there announced that the Chinese renminbi (among other currencies) will become legal tender in Zimbabwe.)
In the past we have discussed at length the inevitable demise of the USD as the world's reserve currency noting that nothing lasts forever. However, when former World Bank chief economist Justin Yifu Lin warns that "the dominance of the greenback is the root cause of global financial and economic crises," we suspect the world will begin to listen (especially the Chinese. Lin, now - notably - an adviser to the Chinese government, concludes that internationalizing the Chinese currency is not the answer (preferring a basket approach) but ominously concludes, "the solution to this is to replace the national currency with a global currency," as it will create more stable global financial system.
Earlier, we debunked an alarmist Forbes story about halted cash transfer by PBOC decree, which was erroneous along various lines all explained previously, not in the least that the actual announcement had first appeared some three weeks ago. And despite the kneejerk reaction of some of our more fatalist readers and not to mention the general public, the reality is that China has more than enough real problems (Trust Equals Gold being at the forefront) and certainly does not need to add imaginary, made up ones, conceived only with the intention of generating conflated ad revenues through click-baiting headlines. Which is why we commend Forbes for, better late than never, pulling the story even without providing an explanation of how this story appeared in the first place. Because where the article once was, there is only a 4-0-Forbes now...
A number of readers have recently suggested there must be collusion between America and China over the transfer of physical gold from Western capital markets. They assume that governments know what they are doing, so there is a bigger game afoot of which we are unaware.
The truth is that China and Western capital markets view gold very differently and with very different philosophies about gold.
Nature is full of unpleasant parasites which cause their hosts to engage in irrational, destructive, or even suicidal behavior. Of course, they exist for humans too... especially for investors. In fact probably the number one parasite which affects investors is a very peculiar emotion: fear. Specifically, it’s the fear of missing out that drives so much irrational investment behavior. Nobody wants to miss a big boom, no matter how baseless the fundamentals. Ironically, this fear of missing out is stronger than the fear of loss. Following the crowd is a great way to lose a lot of money.
Somehow, like it or not, the world turns. Today's hegemon becomes tomorrow's also-ran. Today's reserve currency becomes tomorrow's wallpaper. Today's cock o' the walk becomes tomorrow's dinner. Hey, we didn't create this system. We don't even especially like it. But that's just the way it is. Whether you already have made a fortune, or are trying to build one, you need to be very careful about what currency... or currencies... your wealth in denominated in. From an economic point of view, the system (established by Richard Nixon in 1971) is loopy. The Chinese pretend they have good customers. Americans pretend they have good credit. And everyone pretends to get richer … based on promises to settle up sometime in the future. Instead of edging toward a reckoning, all major governments seem to want to make the situation worse.
"There's no near-term resolution in sight," warns TCW Group's David Loevinger, as "Thailand has entered an extended period of political instability." This uncertainty has led to foreigners abandoning the nation's stock market in record size - and collapsing the Thai Baht at the same time. Why should US investors be worried? Thailand was the catalyst that started the 1997 Asian crisis, broke LTCM, and instigated the most epic experiments in central bank liquidity provision on record. With the Fed Tapering, both Indonesia and Thailand (and Turkey) are already seeing major currency collapses but of course, as long as US equities rise, no one cares (which is exactly what they said last time)...