Monday, July 13, 2009

Continued Commentary On The China Commodities Bubble

Despite the numerous anecdotes of disbelieving analysts on Chinese demand, the commodities just keep rolling in to Chinese harbors. Indeed, here at ZH HQ we have been pounding this drum for a while and have had some great guest pieces recently on the topic. The latest article discusses all the long lines in offloading ships while insiders marvel at the lack of exports to drive this seemingly phantom demand. The following quote serves as a great analogy for the Chinese economy as a whole:

“The level of [iron ore] importing doesn't match the level of steel production so far this year, so there's a considerable amount of stockpiling going on,” said Tim Huxley, chief executive of Hong Kong-based Wah Kwong Maritime Transport Holdings, who along with many others in the shipping industry is grateful for what he called “a shot in the arm” but skeptical that the stockpiling can continue – especially since many of those container ships are sent away empty, without export orders to fill them.

To continue the analogy, these "empty containers" are in fact being filled with government stimulus from the Chinese government. None of this is really new, especially to frequent readers of this blog. However, this is a good juncture to look at the drivers and the implications.

- the Chinese government pumping stimulus money into the economy in a directed way (i.e. buying commodities)

This one is very tricky. Unlike other governments' stimulus packages, the Chinese have the capacity to be much more discrete (e.g. state owned corporations, government rebates for cars for unspecified amounts, etc.) leading to a general uncertainty about where the stimulus line ends and market driven demand begins. Especially with political unrest tied to > 8% annual growth, there is a lot to chew on here. Any clear news on this front should be greatly appreciated i.e. China announces an expansion of the original stimulus package.

- the Chinese government diversifying its assets away from exposure to the dollar

We have never really bought this argument because of the relative sizes involved. However, it's worth mentioning simply because of the market psychology entangled in there. We won't know the truth on this one until it's too late anyway but a good indicator would be the SHFE-LME spread.

- the global demand picture

This one is likely to be bearish for any significant time frame involved. With the US consumer moving to a permanently higher level of savings and the other consumption subtitutes hurting with problems of their own, this cannot really be counted on to push commodities for a couple of years (save the occasional June/July run up in oil prices).

- existing stockpiles

At this point, it's pretty clear the Chinese have enough stockpiled to not have this be a serious influence on the supply/demand picture. Of course, this assumes "free markets" and the resultant appropriate demand fundamentals and not that the Chinese are crunching away on iron ore to build bridges to nowhere. There are a lot of things out there masquerading as "stockpile drivers" but the reality is relatively clear.

Ultimately, this battle is going to be won on technicals - painfully obvious, yes but necessary to reiterate for all the China bears who are glued to every news release on electricity output and car sales. There are very few potential fundamental announcements that can prick this bubble and the slow simmer ones have already been bubbling for a while with no effect. As speculators, this one has the potential to salvage many of the wounded and bloodied accounts out there. When the move happens, it will be without warning and it will be swift.

Hat tip to Anton for the article

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