There is an adage on Wall Street that the stock market stops panicking when central banks start to panic. Earlier this year we noted that the series of policy measures introduced by China’s authorities fell short of a “whatever-it-takes moment.” For example, the property stabilisation measures announced earlier this year represented only around 8-9% of total housing stock. Although we added to Chinese equity at the time, our sense was that the opportunity was only tactical.
While the pessimistic secular and cyclical outlook on China was widely appreciated and priced, credit growth and key sectors (real estate) remained extremely weak. Indeed, stocks levered to cyclical recovery were making new lows. It is plausible that the policy measures announced on Tuesday (finally) suggest a shift in approach on deflation and a much greater sense of urgency. That said, our sense is that more decisive housing and consumer support is still needed or a more powerful central government fiscal impulse.
The good news is that the latest announcement appeared to have a greater sense of resolve. Well informed observers noted the pivot in tone from the PBOC (previously the most hawkish institution) and the joint commitment and attendance at the policy announcement. It had an “emergency” feel to it. Our sense is that there will also be further announcements over the coming days or weeks on greater central government fiscal support. If the policy announcement was only about new liquidity support for the stock market, cuts in mortgage rates, reserve requirements and lending standards it would likely be insufficient in reviving confidence and final demand in a durable way. To be fair, as noted above, the combined easing was larger than consensus beliefs prior to the announcement.
From our perch, more assertive and comprehensive central government fiscal policy support is necessary and likely. It would be extremely bullish (so bullish we can’t walk) given valuation, positioning, and sentiment. However, our broader caution on the global risk proxy (the S&P500) remains in the near term. The challenge for global equities is that even if you believe in the “soft landing” that is already the prevailing bias among institutional investors. The context is elevated US equity valuation multiples and narrow equity risk premiums.
According to the Bank of America Fund Manager Survey more than three quarters of fund managers expect a soft landing. Unfortunately, a soft landing has been the historical exception, not the rule. Key leading indicators of the labour market such as consumer confidence net jobs plentiful suggest that the unemployment rate is highly unlikely to pause at 4.4% (the FOMC projection) despite the super-sized rate cut (chart 1). The unemployment rate is non-stationary and tends to trend once it has momentum.
Chart 1
The deterioration in the labour market is also evident in temporary hires, weak full-time employment, and job openings. The big picture point is that US and global equities are likely to face another phase of weakness or growth fear in October. On the positive side, that would likely create a bullish set up for EM and China, especially if the authorities implement more urgent central government fiscal support measures.
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