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China’s Central Bank Will Prop Up Country’s Stock Market

Pedestrians walk past the Bund Bull statue in Shanghai. Hard to believe, but 2019 has started out with Chinese stocks beating the S&P 500 over the last two weeks. Xie xie, PBoC! Photographer: Qilai Shen/Bloomberg photo credit: © 2018 Bloomberg Finance LP© 2018 Bloomberg Finance LP

Hold on there, China bears. The People’s Bank of China (PBoC) just might save Shanghai and Shenzhen stocks from another bear market year. China’s PBoC will buy local listed shares to prop up a stock market that’s down over 25% in the last 12 months.

It’s already working. The X-Trackers China CSI-300 A-Shares (ASHR) ETF is up 5.5% year-to-date ending Tuesday. That’s better than the S&P 500 and the MSCI Emerging Markets Index.

The Chinese central bank has taken its cue from other plunge-protection units.

There is now an established precedent for central banks becoming active players in equity markets, so the PBoC is no outlier. When shares in the Hong Kong market fell over 50% in 1997 during the Asian Tigers crisis, the Hong Kong Market Authority intervened. Today the Bank of Japan owns more than 4% of the Japanese equity market and is expected to pump another $56 billion into the market this year.

“We think 2019 will see the People’s Bank of China become a player in Chinese equities,” says Jim McCafferty, a research analyst for Nomura in Hong Kong. Other government agencies will follow the bank’s lead into equity, propping up prices of Chinese stocks.

See: Don’t Believe Beijing, China Really Does Rival The U.S. — Forbes

Chinese equities are a poor indicator of economic health. Exports fell 4.4% in December, worse than anyone expected. Photographer: Qilai Shen/Bloomberg photo credit: © 2018 Bloomberg Finance LP© 2018 Bloomberg Finance LP

China Is Losing The Trade War In Nearly Every Way — Forbes

The Fed Finally Admits China Is A Problem — Forbes

If the PBoC gets active, then the MSCI China will become “must have” exposure, Nomura’s research team led by McCafferty said in a recent note to clients. More China A-shares will become part of the MSCI Emerging Markets Index this year as well, making it harder for mutual funds benchmarked to that index to totally avoid China. They will at least have to be underweight. Even so, that makes them buyers.

Investors have been rather ho-hum on China stimulus. But a PBoC backstop to equities is the most bullish signal yet as trade talks remain a mystery.

On Monday, the Chinese cavalry came out in full force to verbalize Beijing’s support of the economy and markets. Assistant Minister of Finance Xu Hongcai said there will be “large scale” tax cuts in addition to fee cuts and support for small to medium-sized enterprises.

The PBoC’s Vice Governor Zhu Hexin said the central bank would “adopt a more flexible monetary policy,” sounding a bit like Fed chairman Jerome Powell in regards to interest rates. China’s economy is slowing, and the bank has room to cut the benchmark lending rate further. The current policy rate is 4.35%.

Premier Li Keqiang spoke at a State Council meeting and said China faced a challenging environment but policymakers were ready to stimulate.

The National Development & Reform Commission’s Vice Chairman Lian Weiliang stated that government infrastructure policies will focus around “stabilizing employment” with an emphasis on 5G infrastructure build-out, artificial intelligence research and development, and the old standby: construction and infrastructure.

Recent economic indicators point to a slowdown. As a result, corporate earnings downgrades are expected to impact China’s stocks this year. The other headwind is Trump’s trade war.

The Trade War Continues …

If fourth-quarter earnings paint a picture of U.S. companies losing profits to tariffs, a deeper sell-off in the S&P 500 can be expected. Photographer: Michael Nagle/Bloomberg photo credit: © 2018 Bloomberg Finance LP© 2018 Bloomberg Finance LP

This month’s meeting between U.S. diplomats and their counterparts in Beijing wasn’t enough to flip the market.

However, the escalation of the trade dispute in terms of tariffs is unlikely if it means an implosion of the S&P 500. That’s not going to sit well with Trump. That doesn’t mean the trade war is over. It’s not.  There is a more profound rivalry brewing the two countries, one that has Washington worried about losing much of Asia to the Chinese.

The trade dispute between Japan and the U.S. in the 1980s was partially resolved by the world’s five largest economies agreeing to allow the dollar to depreciate against other major currencies, especially the Japanese yen. This agreement was known as the 1985 Plaza Accord. Cooperation like that on a global scale has been rejected by countries around the world, and so bilateral agreements are more realistic. The fact that Trump and Xi have an active dialogue is heartening, and U.S. multinationals have been aching for a bilateral agreement for years.

China and the U.S. have separate political and economic systems. It may be hard for both sides to get over the fact that Washington is convinced that China’s newfound tech prowess was gained either by theft or joint venture deals that required tech transfers. Beijing insists that the Huaweis and Tencents and Baidus of China were organically grown from the minds of very smart people. Washington’s not buying it, by and large.  Intellectual property remains the biggest impasse and keeps the trade war alive. So long as the trade war is alive, the threat of new tariffs exists.

A weak stock market is a terrible look for President Trump.  Photographer: Andrew Harrer/Bloomberg photo credit: © 2019 Bloomberg Finance LP© 2019 Bloomberg Finance LP

The PBoC might end up throwing money into a black hole. But if things only get a little worse, they will manage a soft landing in Chinese equities. If things get better, China can outperform with the central bank’s support. This year marks the 40th anniversary of the opening of diplomatic relations between the U.S. and China. This landmark event could be the forum for a diffusion of trade war tensions, says McCafferty. Much of the recent stock market rout reflects trade-war-related anxieties. Capital expenditure decisions are being stalled and businesses are less able to plan.

“We see Trump’s challenge being the need to keep the electorate onside,” he says. The midterm elections saw Democrats beat Republicans in farm counties hit by Chinese tariffs against soybeans. China recently cut those tariffs and purchases have re-initiated.

Earlier this month, Lu Kang, a spokesman for the Chinese foreign ministry, highlighted China’s three M’s—their favorite points to bring up in any cross-cultural discussion: Mutual benefit, Mutual respect and Manage differences. The market has heard that for many years. So has Washington.

Any sign that cooler heads might put tariffs on hold is positive. PBoC intervening is doubly positive.

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