As Saxo Bank's Christopher Dembik writes in his "chart of the week" note on Tuesday, "here and there, we hear that the market is too optimistic about the recovery and that next year many challenges, from vaccine delivery to wave of bankruptcies, remain that could seriously jeopardize the exit from the pandemic era. At Saxo, we don’t think we are wearing red-colored glasses when we say that the year 2021 should be marked by a strong global recovery driven by central bank liquidity and positive growth impulse from China."
The below chart represents the evolution of China credit impulse which is basically the change in the growth rate of aggregate credit as a percentage of gross domestic product. According to Saxo, "this is certainly one of the most important indicators for investors looking to know where the global economy is heading into next year. It is worth watching it as it leads the global economy by 9 to 12 months."
For the first time since the 2015 yuan devaluation, China credit impulse is running above 5% of GDP. To be precise, it was standing at 6.2% of GDP in Q2 this year, at the time of the global lockdown. Even if credit impulse is close to a peak for the downturn phase of this mini-cycle, the flow of credit from the worst period of the health crisis will continue to support the global recovery at least until the end of Q1-Q2 next year.
The strong improvement in China credit impulse is one of the two reasons, along with the sharp increase in global central bank liquidity since the outbreak, that makes Saxo optimistic about the economic recovery next year. It will not be linear, and there will certainly be difficulties, but according to the Danish bank, "it is safe to say as this chaotic year is about to end that the worst is probably behind us."
In terms of investment decision, the strong push in credit from China should be good for risky assets (notably emerging and frontier markets) and contribute to the reflation narrative.
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It's not just Saxo that is keeping a close eye on the Chinese credit impulse, which we said many years ago is one of the most important macro regime shift indicators: as we have shown before, there is a 15 month lag between China's credit impulse and the Bloomberg metal commodity index, where prices should surge as they track - with a lag - Chinese credit injections. This means far more commodity inflation is just around the corner.
Finally, the most important lagged correlation is between China's credit impulse and 10 Year Real rates. If this correlation persists over the next year, expect a substantial spike in real rates, from their current deep depressed and negative levels, all the way to 1% or so, a move that would have profound consequences for global markets.