Weekly Broker Wrap: Brokers Switch Focus To China

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By Andrew Nelson

Last week, a few Australian brokers told us about their latest trips to China, while others spent quite a bit of time trying to figure out what the Chinese leadership plans to do about the nation’s quickly cooling economy. The banks, house prices and an update on the Australian gold sector also featured during the week.

An increased amount of official rumbles have been emanating from China over the past few weeks as it becomes more and ore obvious that the nation’s economy has definitely downshifted a gear or two. Early last week, Premier Wen Jiabao held a State Council meeting to officially discuss economic conditions and macroeconomic policies.

On the record, analysts at BA-Merrill Lynch note it was a discussion about the increasing amount of downward pressure on growth, with a view to look at ways to stabilise growth. However, the broker notes the official line stipulated the aim of “maintaining stable and relatively fast growth, restructuring the economy and managing inflation expectations”.

The broker interprets the above statement, together with Wen’s comments from a few days earlier as indicating the Chinese government is starting to really worry about growth as much as the rest of us and will most likely take some action to support it.

The comments lead the broker to being a little more confident that Chinese year on year GDP growth could hit bottom in the June quarter at 7.6% and rebound to 8.0% in 3Q and 8.2% in 4Q. That is, of course, if there isn’t a sudden decline in the global environment. Hello, Greece?

Merrills does warn that China doesn’t have the best track record when it comes to major stimulus. The Chinese government’s last big effort, back in 2008-2009, saw Beijing funnel about Rmb4tr worth of stimulus into the economy. What China got for its money was the most unbalanced growth in the country's recorded history plus an underperforming equity market despite strong GDP growth. So be careful what you wish for, cautions the broker.

This has the broker thinking that maybe this time around, China may eschew stimulus and focus on reform instead. If that’s the case, BA-ML warns the Hang Seng may well test its Oct 2011 lows, meaning a pullback of about 15% from here, especially if things stay ugly in Europe.

On the other hand, the broker notes that if Beijing does start to spend big, then we will probably see a 20-30% bounce for MSCI China indices, with much of the upside in investment driven sectors. However, the broker warns this would be followed by a severe sell-off – given the last stimulus round didn’t have much of lasting positive effect.

Analysts from Citi also see policies shifting to defend growth, with the broker seeing the possibility for a sub 7% Q2 GDP read. Based on comments from the meeting, Citi thinks there will be a push to attract private investment in the railway, subway, financial, energy, telecom, education and medical sectors. In fact, the broker notes that China’s Ministry of Rail has already announced it will open up investment to private enterprises on all railway projects.

The broker also sees subsidy and support being doled out to rural electronics and construction materials companies, with regulatory changes also relaxing some of the restrictions on the property sector. Tax reforms could also be on the cards, thinks Citi. Ultimately, the broker thinks that if China is serious about defending 7.5% growth this year, then further easing will be necessary, with comment from the Premier about relaxing credit accessibility pointing toward more credit policy relaxation.

Separately, Citi notes that post a road trip though Asia last week that Asian investors are turning a bit more bullish about the prospects of a US recovery. However, the broker notes the opinion wasn’t unanimous, with some still wary about the lack of personal savings in the US.

UBS also took a recent trip to China and notes that after hitting Beijing, it appears that Chinese enterprise is of the same view as BA-ML (see above), wanting no big stimulus, but rather some more subtle measures aimed at helping to rev-up the currently sluggish level of growth. Unlike Citi, UBS sees no respite for the property sector, citing conversations with numerous locals who all but expect the brakes to be kept on here.

UBS does see a push for infrastructure development coming, noting the government has plenty of scope to get things moving, while talk on the street also points to the possibility of some major projects being restarted.

In a separate note last week, a team from Citi discussed the trend of Australian banks offering what are significantly higher term deposit pricing levels as compared to both cash rates and other bank deposit rates. The broker notes that by doing this, banks are hoping to shift some liability away from debt funding and towards customer deposits and then terming out their customer deposit base. If it makes sense for the banks to do this, which Citi thinks it does, then the broker believes prices they are offering must also make sense.

Citi expects the local banks will continue to shift funding towards customer deposits on the back of the ongoing volatility in the availability and price of wholesale funding and because of the ongoing pressure coming from regulators and ratings agencies to reduce reliance on wholesale funding.

Credit Suisse had a look at the Australian property market last week, commenting that overvalued Australian house prices are becoming a real medium term risk to housing credit growth, as more than half of the owner occupied housing credit growth during 1995-2011 period is due to house price inflation.

But given lending standards have remained high; the broker doesn’t expect to see any sort of mortgage default crisis. Rather, CS predicts an orderly deleveraging of household balance sheets, which will be served with relatively stable house price erosion in small increments over the medium term.

Macquarie took a look at the Australian Gold sector, given the investment banker believes the recent sell off is completely unjustified. In fact, Macquarie believes that many of the big names in the sector are priced at a level that factors in a gold price of just US$1,000– US$1,200.

Thus, Macquarie thinks the time is ripe to move into higher quality gold producers that have fallen far more than the physical gold price. Newcrest ((NCM)) tops its list, with Alacer ((AQG)) added to its list of personal favourites (Marquee List). Elsewhere, Macquarie added Mermaid Marine ((MRM)) given the services provider has no exposure to coal or base metals.

 

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