Why The Fate Of The Global Equity Rally May Rest In The Hands Of Soybeans
In last night's very disapponting data release from China there was one notable piece of data: CPI dropped to a 30-some month low, yet it came above the expected level of 1.7%, instead printing at 1.8%, in the process dousing many hopes that the PBOC would immediately succumb to even more interest rates cuts, including a reduction in the far less material RRR. We have long claimed that when it comes to monetary easing, the PBOC is far, far more sensitive to blunt, shotgun approaches such as monetary easing for one simple reason: food prices, which in a nation of 1.3 billion has the potential to lead to very adverse side effects if left alone to spike on its own devices. And yet, with both the ECB and the Fed now likely out of the picture for a while - due to Rajoy's unwillingness to cede sovereignty to the Troika and Germany in order to activate another futile episode of ECB bond buying, and because the Fed does not want to be seen as a political organization and do more QE 2 months ahead of the election - the market's pent up hopes for more easing remain with the PBOC, which has in times of need, always been the marginal driver of global demand. Such hopes may be dashed for one simple reason. Soybean prices.
The chart below shows the stunning correlation between the all important Chinese food inflation and CBOT soybean prices. What it also shows is what Goldman thinks Soy will do in the coming months. It does not take a rocket scientist to explain the imminent spike in soy prices - in fact, we showed two days ago why in the aftermath of an abysmal soybean crop, it is only a matter of time before soy prices persist far higher not so much due to demand issues (i.e., liquidity), but supply constraints. One can be certain that the PBOC is very well aware of this chart and its implications as well.
Potential pass-through of a sharp rise in food prices (due to Chinese domestic flooding and the US drought) to inflation, although so far we expect the impact to be manageable
Which, considering the source, means it will be unmanageable.
So barring some last minute miracle, with Soy prices set to surge on a Y/Y basis, and drag Chinese food inflation with them, will the PBOC ease, and add to incremental food demand, just as supply considerations are about to send Chinese food inflation soaring?
Of course not (naturally, this assumes the wheels of the global economy do not come completely unglued, in which case all bets are off).
For those still unconvinced, below is a reminder just how different the food price component is as an input in two very different CPI calculations: that of China, where it is above 30% of the entire CPI basked, and in the US, where it is the lowest in the entire world at under 8%.
So there you have it: a PBOC whose hands are tied, an ECB whose hands are tied, and a Fed whose hands are also tied (there is of course the BOJ but nobody cares about the BOJ any more).
And still the market keep hoping and praying that despite, or maybe due to, collapsing corporate revenues, and lower corporate earnings guidance, that central banks will come in and save the day.
Maybe they will. But not if soybean prices have anything to say about it...