2019-09-19

Trade War Still a Sideshow,China Still Slowing

The message of this blog for years, and multiple times since January of this year, is that the country relies on credit-driven property and infrastructure development. Everyone looking for stimulus for China needs to account for policy that is delivering the exact opposite. And as has happened every single time before, when the rubber meets the road and the government faces the reality of its development model, it opens the credit gushers.

Caixin: Opinion: China Could Have Difficulty Holding Its Tough Line on Real Estate
Is it possible to stabilize economic growth without support from the property sector? And will property regulations be further tightened? These questions are crucial to judging the direction of China’s economy.

...From a historical perspective, an economic recovery at times when there was a drop in external demand usually relied on the “dual engines” of infrastructure investment and real estate.

...Admittedly, policymakers have not used real estate as a tool to boost the economy in the latest round of economic stimulus, but that doesn’t mean they will allow it to depress economic growth.
There's nothing wrong with this opinion piece. I'm using it to highlight the fact I've been saying this all along. However, it does signal that perhaps the government is running out of patience.

As for infrastructure spending, China has reached some limits.

SCMP: China’s railway spending plummets as Beijing struggles to sustain momentum
China’s spending on railways, a key driver for growth in the last decade, tumbled in August – in part because all major towns are now covered by the country’s extensive railway network.

China’s economic planning agency said on Wednesday that railway fixed-asset investment was 449.6 billion yuan (US$63 billion) in the first eight months of this year, which marked a modest 2.5 per cent fall from the same period last year.

However, August alone marked a steep fall of 27.1 per cent compared to the same month in 2018, according to calculations by the South China Morning Post, based on the official data.
Three takeaways. One, infrastructure spending is hitting its natural limit. Two, real estate development often accompanies (before or after) infrastructure development. When the government announces a high-speed rail stop in a town, the real estate around the station booms. A lack of spending has knock-on effects. Additionally, even if they keep spending on rail, they will build stations in out-of-the-way rural areas unlikely to attract developers. Three, credit-fueled economic growth requires a rising rate of borrowing because as credit becomes multiples of GDP, even a small decrease can have a huge impact on total nominal demand. Thus it is not surprising to see that as railroad spending slows, it tips into collapse.

Real estate remains in a slowdown, yet is also still very close to an explosive bull market if the government lets the credit genie out of the bottle.

Reuters: China's home price growth at weakest in nearly a year, developers seen cutting prices
Average new home prices in China’s 70 major cities rose 8.8% in August from a year earlier, compared with a 9.7% gain in July and the weakest pace since October 2018, Reuters calculated from official National Bureau of Statistics (NBS) data on Tuesday.

On a monthly basis, average new home prices rose 0.5% in August, less than July’s growth of 0.6% and the smallest increase since February. However, it still marked the 52nd straight month of gains.

Most of the 70 cities surveyed by the NBS still reported monthly price increases for new homes, though the number was down to 55 from 60 in July.
Investment could slow substantially in the fourth quarter though.
China’s property investment grew at its fastest pace in four months in August, data showed on Monday, in contrast to a protracted slowdown in industrial output and investment.

But some analysts said the rebound in investment was likely due to developers rushing to meet government requirements before they can start sales on growing financing pressure and worries about the market’s prospects as regulators have made clear that supervision is only set to tighten.
Turning to the global economy, Andy Xie in SCMP reminds us that a trade war deal is unlikely. US-China trade war: both sides have reason to compromise, but their differences remain intractable
China and the United States are taking steps to de-escalate the trade war. It has raised hopes for a breakthrough at the scheduled talks next month. While there could be an agreement to ease some of the tit-for-tat punitive measures, a complete solution is unlikely.

Indeed, the trade war is likely to continue for many years. The auxiliary tech war will only escalate. Full-scale military competition may not be far off.

US President Donald Trump is backing off to a degree because the stock market cannot absorb further blows. Americans depend on the stock market for their retirement. If it crashes, it is adios Trump. Right after the market crash in response to his announcement of a 5 percentage point increase on tariffs, he admitted to having second thoughts.

The market took that as a sign that no more was coming. He has taken more conciliatory steps since, such as postponing some of the tariffs to December from September.

China’s incentives for reconciliation are multifaceted. The top concern is to have a smooth national day celebration on October 1. Events and dates drive Chinese politics. This is a matter of face. Second, inflation is rising in political importance.
Not unrelated to the various articles above, comes an economist saying the government can keep unemployment low even with 4 percent GDP growth.

SCMP: China can handle much slower GDP growth rate and still create enough jobs, government economists say
China should not be alarmed by a much slower economic growth rate in the coming years, perhaps as low as 5 or even 4 per cent, with the economy now large enough to still create sufficient jobs at these growth rates, according to three prominent Chinese economists who advise the government.

The headline gross domestic product (GDP) growth rate slowed to 6.2 per cent in the second quarter this year, the lowest figure since quarterly records began in March 1992, due to the headwinds created by the slowing economy and the trade war with the United States. The risks are also growing that it could slip below 6.0 per cent next year which would fall outside of the government’s target range of between 6 and 6.5 per cent for 2019.

“China had to put growth as a top priority because China had to create enough jobs, and when China’s economic size was small, China had to achieve a high growth rate to ensure [sufficient] employment,” said Zhang Yuxian, the head of the economic forecasting division at the State Information Centre, a think tank under the Chinese government’s economic planning agency.

“But for now, a 6 per cent growth rate means 5.4 trillion yuan (US$761 billion) worth of additional GDP and China’s labour force supply has stopped growing. In other words, a 6 per cent growth rate is enough to absorb the new labour supply. When China’s economic size grows to 100 trillion yuan (US$14 trillion) or 110 trillion yuan, a growth rate of 5 or 4 per cent will be enough, so what’s the point of aiming for an overly high growth rate?”
The commodity sectors may not be an sanguine...

Moreover, while some blame the slowdown on trade, it isn't the key factor. It's better understood as a coincident event.

SCMP: Trade war alone did not cause the slump in Asia’s export hubs, but Donald Trump ‘blocking’ recovery
Outside Hong Kong, large semiconductor-producing economies including Singapore, South Korea and Taiwan have also started feeling the pinch.

All three, which count China as a major trading partner, have seen sharp drops in growth this year, showing the twin perils of being overexposed to the electronics sector and the world’s second largest economy.

On Tuesday, Singapore announced its non-oil exports fell 8.9 per cent in August, led by a 25.9 per cent decline in electronics, the largest exports after machinery and equipment. Electronic exports, of which semiconductors form a big chunk, have now fallen every month this year. In all but one of those months, the slump has been double-digit.

In South Korea last year “semiconductor sales accounted for a staggering 92 per cent of Korean export growth, a single product dependence more akin to an oil nation”, said Rory Green, China and North Asia economist at TS Lombard.
This is very evident for the U.S. As the import numbers indicate, the U.S. trade deficit isn't shrinking. Importers moved away from China.
There has been no meaningful uptick in M2 or TSF growth.

Finally, there's no sign of a major stimulus in China even in the wake of the Federal Reserve's rate cut and hinting at perma-QE.

iFeng: 美联储二度降息后 中国货币政策走势如何?
Wang Qing said that the future structural monetary policy tools will continue to exert efforts to provide "directed drip irrigation" for private enterprises and small and micro enterprises.
Terms like "fine-tuning" and "drip irrigation" do not indicate the market anticipates the opening of the credit gushers.

If China's non-real estate related domestic economy does not greatly increase its borrowing and its contribution to GDP, the economy is going to experience another step-down in growth. If the government waits another quarter or more before throwing in the towel, the global economy may experience China-related pain into early 2020. And if the economy slows and they don't act, if they've reached the natural limits of their powers, or if the global financial system delivers enough pressure through the rising dollar, then say 你好 to Chinese GDP contraction.

2019-09-15

Pledge Stock Loan Risk Hasn't Evaporated

Caixin reports pledged stock risk is the same as it was in mid-2018. For background see: Stealth Risk From Hidden Pledged Loans and also The Bubble's Revenge: China's A-Share Market is Littered With Pledged Share Land Mines Buried During 2015 Mania, as well as some damage control covered here Shenzhen Bails Out A-Shares With Pledged Loans.

Of the 3668 companies listed in the A-share market, 3573 of them (or their major shareholders) have some level of pledged stock loans. Pledged loans are estimated at 8.3 percent of the total market valuation, down from a peak of 10 percent during the bear market last year.

财新:股票质押风险未消
Pledged loans are being paid off and the total outstanding is declining, but many companies are rolling over their pledged loans or obtaining new ones:

2019-09-13

Mortgage Rates Rise in August

First number in the chart is first-home mortgage, second chart is second-home rates.

iFeng: 8月全国首套房贷平均利率上涨
According to the latest monitoring data of 360 Data Research Institute, the average interest rate of the first home loan in China was 5.47% in August, up 3 basis points from the previous month; the average interest rate of the second home loan was 5.78%, up 2 basis points from the previous month, equivalent to the current The 5-year LPR level adds 62 basis points and 93 basis points, respectively, which are much higher than the lower interest rate limit specified in the new regulations.

The data shows that in the first suite, the interest rate of the 17-city mortgage loan has increased in August. Compared with June and July, the number of cities covered by the rising interest rate of mortgage loans and the increase rate have shown an upward trend.

In August, the mortgage interest rate of the first suite in Shenyang area rose the most, at 23BP. The Jinan area remained stable after the mortgage interest rate was lowered in June. Recently, banks have carried out a round of concentrated upward adjustment, bringing the increase of 18BP in the Jinan area. In addition, the three cities in Nanchang, Kunming and Nanning increased by more than 10 BP in August.

Many bank mortgage interest rates will face upward adjustment

Among the 533 bank branches and branches in 35 cities monitored by 360 Data Research Institute, except for the bank that suspends loans, there are currently 19 banks with the first suite interest rate level still below 4.85%, and 116 banks' second-home loans. The interest rate level is below 5.45%. According to the regulations of the central bank, the interest rate of the first commercial personal housing loan shall not be lower than the corresponding market loan interest rate (according to the LPR of 4.85% for the 5-year period above August 20); the interest rate of the second set of personal housing loans shall not be lower than the corresponding period LPR plus 60 basis points (according to the LPR of 5 years and above on August 20, 5.45%).

This means that after the implementation of the new mortgage policy, these banks must raise their mortgage interest rate levels, which will lead to further increases in the interest rate of some urban mortgage loans. From the current data, Shanghai, Xiamen and Tianjin's overall mortgage interest rate is also lower than the new regulatory limit, and will also face an upward adjustment.

In addition, Li Wanfu, an analyst at 360 Data Research Institute, believes that the recent reduction in the deposit reserve ratio by the central bank will bring about a decline in bank financing costs. However, whether it is the RRR cut or the introduction of the new LPR quotation mechanism, it is expected that the actual interest rate of the loan can be reduced through bank transfer. At the policy level, it is explicitly mentioned that real estate is not used as a means of short-term economic stimulus, and that the supervision layer has a large degree of capital containment, and the degree of violation inspection is far more stringent than in the past. In the short term, this round of measures is mainly to reduce the financing costs of the entity, and the possibility of a drop in mortgage interest rates is unlikely.

2019-09-11

Maotai Prices Are Tumbling

China is cracking down on Maotai dealers and the price is tumbling, but is that due to the regulations or because deflation is rearing its head?

iFeng: 中秋前夕飞天茅台降温:批价骤降至2400元附近 黄牛慌了
First, the scope of the clue collection includes:

(1) In the sales of Moutai wine market, illegal and illegal behaviors such as hoarding, raising prices, increasing sales, transferring sales, and illegal tying;

(2) The illegal act of producing and selling infringing and counterfeiting Moutai;

(3) maliciously selling the sales units and individuals who speculate on the sale of Moutai to seek improper benefits;

(4) Producing and publishing false advertising advertisements of Moutai, deceiving and misleading consumers and other illegal acts that damage the legitimate rights and interests of consumers;

(5) Other violations of laws and regulations that disrupt the order of the Moutai market.

Second, the report method: 24-hour complaint report phone number: 12365. All sectors of the society and the broad masses of the people are welcome to report.

Some industry observers pointed out that the first and fourth measures in the document were more effective, which greatly promoted the regulation of the Moutai market, and effectively shocked the speculators in the market and successfully curbed the flying Maotai in the Mid-Autumn Festival in line with the interests of consumers.
Did the crackdown lower prices or are larger economic forces in play?
“Affected by major festivals, the prices of pork and other essential products are also falling. The price of the flying Maotai in the Beijing market has indeed been lowered, currently around 2,400 yuan.” In the survey, there were long-term follow-up observations of Guizhou Maotai’s securities to the wine Industry reporter said.

It is understood that regarding the price of a batch of Maotai liquor, there has always been a distinction between “bulk goods” and “piece goods” in the market, and the prices obtained by the above-mentioned liquor companies are all “prices” at the dealer level.

According to industry sources, Feitian Maotai's bulk purchase price in the early stage of the Beijing market was 2350-2400 yuan, and today's purchase price is 2100 yuan, down 250-300 yuan / bottle, there is indeed a large decline.
Some people aren't buying the crackdown explanation:
Another industry analysts believe that the core reason for the large drop in the flight of Maotai is mainly due to the release of various channels before the Mid-Autumn Festival, and the supply has increased. Some people in the market believe that the price of Moutai may fall after the Mid-Autumn Festival. Therefore, the current market demand is affected. The multiple factors such as price cut expectations and weak investment attributes have a large decline.

In this case, there is a group that appears to be panicked. This group is the "yellow cattle" party that has long been speculating on the flying Maotai. "The oxen are really panicked, because a large number of goods are coming to the market, and prices will fluctuate." Someone analyzed.

There are many rumors on the Internet today. Some say that Beijing Huangniu has lowered its price in Maotai. It is also said that Maotai has increased its supply and price control has been well stabilized before the Mid-Autumn Festival. Kaisheng Liquor believes that at present, the entire high-end liquor has indeed risen faster in the early stage, but it does not mean that the demand for high-end liquor will be met. This is only the increase in volatility after the stock price and the terminal price increase too much.

Why is the price of Moutai so important? Moutai is the price indicator for the whole high-end wine. The price of Moutai is falling, which will inevitably affect Wuliangye and Luzhou Laojiao. Because the difference between the ex-factory price and the terminal price of Maotai is the largest, the price reduction does not affect the profitability and short supply of Maotai. Wuliangye and Luzhou Laojiao enjoyed the spillover effect of Maotai's short supply.

Some brokers believe that the main reason for the short-term decline in Moutai prices is: 1. Manufacturers require 18% of the July and August quotas to be shipped in accordance with 1499; 2. The goods began to be delivered to September in the second half of last week, so the short-term approval price fluctuated slightly. However, it remains firm and the callback is limited. In the previous period, the 2600-2700 was shipped at a lower price, and there was no market price. The price of 2400-2580 was relatively more realistic. The overall regional feedback on high-end liquor sales in the Mid-Autumn Festival was good, with steady growth year-on-year, in line with current market expectations.

Will Real Estate Rage Return in 2019? Developers Slashing Home Prices Ahead of Mid-Autumn and National Day

With the credit window closing, developers are under more pressure to move inventory during Mid-Autumn Festival (September 13) promotions this coming weekend and in the upcoming Golden Week holiday. Prices are already falling as much as 10 percent and larger cuts could be coming depending on this coming weekend's holiday traffic.

iFeng: 房企扎堆促销 有楼盘每平方米降价近万元
Recently, Evergrande’s nationwide “Golden September and Silver 10” National Day purchase promotion activities were not a case. From the perspective of the Beijing area, a number of large and medium-sized developers have launched a variety of promotions. In Guangzhou and Wuhan, there are also frequent discounts for developers. Industry insiders pointed out that housing enterprises are pushing the push for traditional sales season, aiming to speed up the withdrawal of funds and ease the pressure on funds.
Wuhan is one of the strongest housing markets in China and Guangzhou is arguably the strongest of the tier-1 cities. Beijing is also seeing price cuts of approximately 10 percent.
Price reduction

A recent survey by China Securities Journal found that many large and medium-sized developers in Beijing have launched promotional activities with varying strengths. Among them, a high-end residential project of a leading house enterprise has a price reduction of nearly 10,000 yuan per square meter, and the total price has dropped by about 1.1 million yuan. The sales manager of the real estate introduced, "The externally quoted 75,000 yuan / square meter of hardcover room can be sold according to the actual situation of the customer's purchase of 68,000 yuan / square meter. The delivery standard is about 10,000 yuan per square meter, after the price reduction has been Close to the cost price." For the reason of the price cut, the manager bluntly said that the downturn was down, and he wanted to speed up the payment by lowering the price.
It's not only the lack of credit driving sales, but also a cooling housing market:
Zhuge Institute of Housing Research analyzed that the recent cold sales in the property market is the direct cause of developers to cut prices. In the context of increasing financing difficulties, the pressure on housing companies' funds has become more prominent. Some housing companies are taking advantage of the traditional "Golden September and Silver 10" sales season, and hope to quickly withdraw funds through the way of price cuts.
Companies are desperate to move fast and offering larger discounts for customers who can pay now:
Judging from the current situation, most of the property promotion activities launched are linked to the down payment account. The faster the payment, the greater the discount, but the discount is basically reduced by 30,000 to 100,000 yuan on the basis of the total house price. The situation of direct drop of one million yuan in Beijing is relatively rare. The above-mentioned cases belong to the promotion activities jointly launched by housing enterprises and intermediaries, and the activity period is short.
Home price declines are occurring in top-tier suburbs and all over the lower-tier cities.
In addition to the Beijing area, recent Guangzhou, Hefei, Zhengzhou, Wuhan and other places have also reduced the price of houses. According to Zhuge's house statistics, the price reduction areas can be roughly divided into two categories, one is the suburbs of large and medium-sized cities, such as Tongzhou, Shunyi, Changping, Daxing in Beijing, and Fengxian in Shanghai. The second is the third- and fourth-tier cities, such as Huai'an, Huanggang, and Zhangjiagang. Due to the limited supply of land in the central city of the big city, the supply of new houses is concentrated in the suburbs, and the price reduction space is relatively large. The third- and fourth-tier cities were affected by the weakening of the shed and the peak of supply. The market was weak, and the volume and price of some areas fell.
Inventory ratios rose in August as sales slowed:
Behind the increase in price cuts is the decline in trading volume. According to a report released by the Yiju Real Estate Research Institute, in August, the transaction area of ​​newly-built commercial housing in 40 typical cities monitored decreased by 9% from the previous month and decreased by 3%. Among them, the transaction area of ​​the four first-tier cities decreased by 19% quarter-on-quarter and 16% year-on-year; the transaction area of ​​18 second-tier cities decreased by 10% quarter-on-quarter and 6% year-on-year; in the third- and fourth-tier cities, the transaction area decreased by 4% year-on-year and 17%.

On the supply side, the data from the Kerry Research Center showed that the supply-demand ratio of commercial housing in more than 70% of cities increased in August, and the inventory of nearly half of the key cities increased slightly, with the increase rate within 7%, and the inventory digest cycle was longer.

Shen Yu, a researcher at the Yiju Real Estate Research Institute, predicts that some housing companies will increase their efforts in the next few months due to financial pressure. It is expected that the price increase of the “Golden September and Silver 10” property market will increase. It is not ruled out that some of the previous home purchases will be released, and the property market may increase in a short period of time. However, the China Index Academy said that due to many factors such as tightening industry policies, rising mortgage interest rates, and overdraft demand, the real estate market has a strong wait-and-see attitude at this stage. The effect of the promotion and collection strategy is still not obvious, and the downward pressure on the market is still large. The possibility of growth is small.

The central bank announced a RRR cut, which is expected to release about 900 billion yuan in long-term funds. The relevant person in charge of the central bank said that the RRR cut was not flooded, and the stable monetary policy orientation has not changed. The Kerry Research Center said that the RRR cut is limited to the property market. Although the overall credit environment tends to be loose, the real estate credit policy will continue to be moderately tightened under the regulatory tone of “staying and not speculating”.

Guoxin Securities Research Report pointed out that the relevant departments have introduced various measures to prevent funds from violating the regulations into the real estate sector in an all-round way. The current round of RRR cuts has limited impact on the real estate market. It is worth noting that before the RRR cut, various policies to tighten real estate financing were introduced, especially during the two-month period of July and August. Therefore, it is difficult for funds to flow to the real estate industry on a large scale, and housing prices and land prices are not likely to rise sharply. Some market participants also believe that there is still a marginal benefit to the impact of the RRR cut on the property market. The willingness of banks to place credit after the available funds have been enriched will increase, and some of the previous bank mortgages will run out and the lending rate may slow down.

2019-09-10

Bombs Away

I had great success with the diamond pattern on Ulta Beatuy (ULTA). This is a far more important stock for the overall market: Berkshire Hathaway (BRK.B). Although the diamond is not complete, I shorted here at the underside of the 2008 trendline, former support now potentially resistance. Diamond patterns can produce explosive moves in either direction, depending on how they complete.

Eastern Banks Have Halted Lending to Developers

China has trouble generating credit growth without sparking a housing rally. Conversely, evidence suggests China cannot generate credit growth without real estate lending or government-directed stimulus (infrastructure).

Additionally, there's not much evidence of real estate restrictions working, rather home prices have typically tracked credit growth. There was some loosening of restrictions as provinces and cities used the excuse of a "talent war," but lately they've been tightening them up as credit conditions ease.

China is facing a critical moment with credit growth in the range of 10 percent and banks already failing. It needs faster credit growth, but officials also do not want get back on the wheel of suffering, since every stimulus fails within 2 years. China wants something new: credit growth that flows to productive uses. Prior efforts failed as SOEs and others took advantage of financial repression. They borrowed cheaply from sate banks and then made loans to real estate developers at higher interest rates.

财新: 银行收紧开发贷 华东个别分行已暂停放贷
How to make funds no longer flock to the real estate market when liquidity is relatively abundant?
Since the end of April, “the housing has not been speculative” has returned to the Central Politburo meeting, the policy signal of real estate financing has gradually become clear: strict control increments and enhanced compliance. At the same time as the channels such as real estate trusts and bond issuance are tightened, the supervision and regulation of the housing loans in the bank tables are simultaneously regulated.

  According to Caixin reporter, since July, many banks have received guidance from the supervision window, which has control over the scale and growth rate of real estate development loans and mortgage loans. Among them, real estate development loans exceed a certain percentage of banks, not add new real estate development loans. In short, the pressure on banks to focus on real estate loans.
ICBC's many branch presidents pointed out to Caixin reporter that the branch-related loans of their branches were zero growth, and even some pressure dropped. “The head office unifiedly allocated loan quotas, and did not add new real estate development loans. A person from the head office of Shanghai Pudong Development Bank pointed out that the regulatory requirements, the proportion of housing loans to total loans can only be limited to a certain amount; if the bank's loans to manufacturing, small and micro loans increase, then The amount of housing loans can also be moderately increased.

  Under the current situation, the approval and tightening of housing-related loans is the norm. A person from the relevant department of the Bank of China told the Caixin reporter that the current housing loan is still being released, but the approval is stricter and must be in full compliance with the “four three two” (ie “four certificates” and 30% self-owned funds. Projects with secondary qualifications can only be invested. A general manager of a certain branch of the Industrial Bank also pointed out that the whole bank implemented “individual declaration and separate approval” for real estate development loans. Even if the reported projects are approved, they will have to wait until the scale is moved out to lend. At that time, you can only suspend lending.

Banks tighten development loans, and the impact on real estate companies is self-evident. At present, real estate companies mainly rely on pre-issuance of bonds and sales repayments. Superimposing the restrictions on sales implemented in certain regions, the real estate enterprises with insufficient initial reserve will have a greater impact on their cash flow.

  According to Caixin’s previous report, the background of this round of real estate financing regulation stems from the fact that in the second half of 2018, the real estate market has partially loosened, the land king has reappeared, and house prices have rebounded almost completely, which has caused the market to worry about the Chinese economy’s old path. At the beginning of 2019, senior decision-makers had requested to strengthen the management of real estate finance and avoid further stimulus to real estate in the context of a significant improvement in the credit environment.
The key short-term takeaway: the Chinese economy's old path was one of recovery. The downturns of 2011, 2014 and 2016 were reversed by a rapid reversal in home prices, land prices and real estate investment. The stimulus worked because the housing market quickly put capital to use.

This time, housing is acting as a limiter. Banks cannot lend unless they expand their loan book, but other borrowers are under pressure from a slowing economy. Banks are not making many loans because they don't see good risk-reward in lending to SMEs. This is not a sustainable path because credit bubbles require rapid credit expansion. China slowed from 13 percent credit growth last year to 10 percent this year. A slowdown to 7 or 8 percent in 2020 won't generate a equivalent slowdown in activity, it would threaten to tip the economy into collapse, as a slowdown in credit growth took down the U.S. economy heading into 2008.

Credit systems require borrowers and they require profitable lending opportunities for banks. It will be very good news for China and the global economy if the country can grow without the housing/real estate development market pulling it. Unfortunately, clear signs of success have yet to appear.

2019-09-08

Bull vs Bear Battleground: A Tour Through SLX

The materials sector is one of the best areas for both bulls and bears right now, and I say both because there will be a spectacular move from here. I think the evidence weights bearish and points to major declines in many steelmarkers and related companies. On the flip side, there are still some bullish formations that if completed, would point to major gains in the sector. Or at least, if these bearish formations fail, it would invalidate the harsher bear forecasts for the global economy.

My base macro case is that the U.S. dollar will rally. Developed market currencies will depreciate. Emerging market currencies could implode. China's economy is slowing and at risk of tipping into a full-on recession with negative GDP growth or at least major sector damage. Some secondary evidence is the housing markets in Canada and Australia being extensions of the China/commodities slowdown. Drilling down to steel itself, China has been boosting production to lift its GDP. Assuming China does slow, a massive wave of steel will eventually pour out of China and hammer the global steel industry. Or if every nation throws up high tariffs, China will choke on its own production and iron ore demand will fall through the floor.

With the VanEck Steel ETF (SLX), the measured move indicated by the chart suggests my macro case is at least correct in size. China will either accelerate or decelerate, the chart says whichever way it moves will be explosive. I view the charts and macro as reflexive, that is to say I'm becoming more confident in a bold bearish call on China as charts of steelmakers (as one example) look increasingly bearish.

The long-term pattern on SLX looks like a monster inverted H&S. If SLX were to rally past the $46 area, it would open up a move to the $75 area and that would open up a move back to the all-time high on this ETF. The macro case for such a move is the central banks succeed in generating an inflationary global growth cycle beyond anything seen over the past decade. Commodities and material prices rally as they did in the early 2000s. China's economy rebounds and there's enough growth to go around, trade wars or not.
This inverted H&S pattern experienced a false breakout from February to May 2018. The timing is important because this overlays with the broader stock market being in a trading range since January 2018 (the widening megaphone). My assumption is both this pattern in SLX and the broader market are related.

Drilling into the shorter-term, the developing H&S pattern since November 2016 also correlates with the broader market. The S&P 500 Index was trading at the same level in December 2014 and in the days before Election Day 2016. For those looking for the hand of the central bankers, October 2014 was the end of quantitative easing by the Federal Reserve. October 2017 was when the Fed began reducing its balance sheet.
This pattern has completed and a retest of former support (now resistance) is underway. If this pattern is not violated with a break of resistance, the expected move is a roughly 50 percent decline from current levels.

With all that said, let's take a tour through the listed steel industry via an ETF, VanEck Steel (SLX). SLX isn't very heavily traded and doesn't have many options traded, but some of the holdings are liquid. Many of these holdings also appear in SPDR S&P Metals & Mining (XME). I will go through the charts in alphabetical order. Full disclosure: I am currently short STLD, ATI and NUE, and was short CMC in the recent past.

First up is AK Steel (AKS). This looks like a triple bottom, but Slopecharts let's me adjust the Y-axis. If this is actually a topping pattern, I'm afraid this company might be going bankrupt.
Allegheny Technology (ATI). I missed the break, but added puts last week. The topping pattern since August 2017 is what I'm focused on here. The target for this pattern is in the $14 area, I slapped on a horizontal around possible support. However, there's a similarity to AKS that suggests larger losses in the context of a 50-percent move in SLX.
Cleveland Cliffs (CLF), an iron ore miner. This chart has some bullish potential. The pattern since 2016 looks similar to precious metals miners. However, the uptrend was violated last week. Would like to see another break there for a clear bear signal.
Commercial Metals (CMC). There's a small inverse H&S pattern potentially forming.
Here's a great bull-bear chart from Carpenter Technology (CRS). There are three topping patterns since 2008, but also a rising trendline of support. Even if this is an ultimately bullish pattern, it could drop about 20 percent to the horizontal first.
Gerdau SA (GGB). Above $3.73 (the horizontal) looks bullish. Break the smaller horizontal at $2.45 and good night Gracie, the 2001 low near $0.25 opens up.
ArcelorMittor (MT). Massive wedge. Long-term support and resistance cross in March 2022. Won't have to wait that long for a resolution.
Nucor (NUE). This stock is relatively strong. Above $60 and it looks bullish. It recently touched the underside of support from the 2003 low. Major support back to the early 1980s is about 20 percent below.
Posco (PKX). See MT above.
Rio Tinto (RTP). Violated, then retook trendline from 2016 low. Very bullish above $70, 40 percent above. Major support around $20, 60 percent below.
Gibraltar Industries (ROCK). Below $31.71 and it's a failed breakout. From the macro perspective, I like the potential. A failed breakout starts with a loss of more than 20 percent. Looking back, there is a failed breakout analog ahead of the 2008 collapse.
Reliance Steel (RS) is above resistance.
Ryerson (RYI)
Schnitzer Steel (SCHN)
Comphania Siderurgica Nacional (SID). A double towards $9 (blue horizonal) or a potential breakdown to sub-$1.
Steel Dynamics (STLD). Similar to Nucor.
SunCoke Energy (SXC).
Timken Steel (TMST)
Tenaris SA (TS)
Ternium SA (TX). I had a bunch of horizontals on here and tried the Fibonacci instead, and they were really close.
Vale (VALE)
Vedanta (VEDL). A fourth topping pattern in a little over a decade is completed.
Worthington Industries (WOR).
US Steel (X). I pulled the Y-axis to show the downside potential if this is topped out.
Olympic Steel (ZEUS)