Citic Securities leads losses after revealing investigation
Industrial profits drop 4.6% in October as slowdown deepens
China’s stocks tumbled the most since the depths of a $5 trillion plunge in August as some of the nation’s largest brokerages disclosed regulatory probes, industrial profits fell and two more companies said they’re struggling to repay bonds.
The Shanghai Composite Index sank 5.5 percent, with a gauge of volatility surging from the lowest level since March. Citic Securities Co. and Guosen Securities Co. plunged by the daily limit in Shanghai after saying they were under investigation for alleged rule violations. Haitong Securities Co., whose shares were suspended from trading, is also being probed. Industrial profits slid 4.6 percent last month, data showed Friday, compared with a 0.1 percent drop in September.
The probe into the finance industry comes as the government widens an anti-corruption campaign and seeks to assign blame for the selloff earlier this year. Authorities are testing the strength of a nascent bull market by lifting a freeze on initial public offerings and scrapping a rule requiring brokerages to hold net-long positions, just as the earliest indicators for November signal a deterioration in economic growth. A Chinese fertilizer maker and a pig iron producer became the latest companies to flag debt troubles after at least six defaults this year.
“The sharp decline will raise questions whether the authorities’ confidence that we are seeing stability in the Chinese markets may be a tad premature,” said Bernard Aw, a strategist at IG Asia Pte. in Singapore. “The rally since the August collapse was not fundamentally supported. The removal of restrictions for large brokers to sell and the IPO resumptions may not have been announced at an opportune time.”
Friday’s losses pared the Shanghai Composite’s gain since its Aug. 26 low to 17 percent. The Hang Seng China Enterprises Index slid 2.5 percent in Hong Kong. The Hang Seng Index retreated 1.9 percent.
A gauge of financial shares on the CSI 300 slumped 5 percent. Citic Securities and Guosen Securities both dropped 10 percent. Haitong International Securities Group Ltd. slid 7.5 percent for the biggest decline since Aug. 24 in Hong Kong.
The finance crackdown has intensified in recent weeks and ensnared a prominent hedge-fund manager and a CSRC vice chairman. Citic Securities President Cheng Boming is among seven of the company’s executives named by Xinhua News Agency as being under investigation. Brokerage Guotai Junan International Holdings Ltd. said Monday it had lost contact with its chairman, spurring a 12 percent slump in the firm’s shares.
An industrial explosives maker will become the first IPO to be priced since the regulator lifted a five-month freeze on new share sales imposed during the height of the rout. Ten companies will market new shares next week. The final 28 IPOs under the existing online lottery system will probably tie up 3.4 trillion yuan ($532 billion), according to the median of six analyst estimates compiled by Bloomberg.
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A lot of investors breathed a sigh of relief on Thursday after the Fed decided to hold interest rates steady. While it will happen eventually, a number of financial experts say an increase in rates could derail global markets.
With our world more intertwined than ever before, what happens in America could impact the rest of the world. Conversely, a further slowdown in China or political upheaval in Europe could impact the U.S. and other international markets.
While the global economy is still projected to expand by about 3.3 percent this year, according to the IMF, there are several risks that could impact the global economy and its stock markets.
If anyone’s been paying attention to the news lately, they’ll know that Chinahas been in a heap of trouble. Its stock market is wobbly, people aren’t sure whether its growth projections are accurate, corporations are carrying loads of debt, and the list of issues goes on.
To Eric Lascelles, chief economist at RBC Global Asset Management, what’s happening in China presents the biggest risk to world markets and, more specifically, its debt issues.
This year the country’s corporate debt levels hit 160 percent of GDP, which is twice as high as America’s corporate debt levels, while Standard & Poor’s estimates that China’s corporate debt will climb by 77 percent, to $28.8 trillion, over the next five years.
Much of that debt has been concentrated in the country’s booming housing market, said Lascelles, and while the government is helping out local governments and companies, non-performing loans on Chinese banks have grown by 57 percent over the last year, he said.
It’s still a low base—only 1.5 percent of loans aren’t being paid, he said—but those growth rates are rising. If this does become a larger problem, then economic growth could slow even further, which, with China being the second-largest economy in the world representing about 16 percent of global GDP, would have an impact on all of us, Lascelles explained.
While most people expect the Federal Reserveto raise rates before the end of the year, a move in the overnight rate could still create volatility on a global stage, said Lisa Emsbo-Mattingly, Fidelity’s director of research for global asset allocation.
A lot of people think that the base rate will simply be increased by about 25 basis points and that everything will look like it does now. However, bond rates bounce around and aren’t as stable as people may think, and that could cause uncertainty.
As well, the U.S. government balance sheet is “extremely large,” she said, and any rise in rates will impact the bonds it holds.
“The technicalities of this may be more complex than what we’ve seen in the past,” she said. “We’ll see how the market reacts to a little more uncertainty in the Fed funds rate and short-term rates.”
One of the consequences of a rising Fed rate could be an illiquid global bond market. Why? Because when rates rise, bond prices fall, and who wants to buy a security that’s falling in price?
That’s one of Jeff Mortimer’s concerns. The director of investment strategy for BNY Mellon Wealth Management is worried that when people try to sell their bonds into a rising rate environment, there won’t be any takers.
Regulation, he said, has already pushed traders out of the bond market, so there aren’t as many people buying and selling fixed-income instruments as it is.
“We know that there are less people taking the other sides of trades, so how will the bond market handle selling pressure?” he questioned.
An illiquid market could impact global markets in two ways. First, bond prices will fall even farther than they should. And second, if people can’t sell their bonds, they may start selling other assets.
“If you can’t sell bonds, then what are you going to sell?” he asked. “You’ll sell equity—that’s a lot of what transpired in 2008.”
Over the last year, the greenback’s value has steadily climbed. It’s up 20 percent against the Canadian dollar, 14 percent against the euro, 10 percent against the yen and so on.
There are multiple sides to the U.S. dollarstory, said Lascelles. Some countries, like Canada, Europe and Japan, like having a weaker currency as it helps exports, but emerging markets countries do not.
Many of them use American dollars to fund day-to-day operations, and if buying those dollars gets pricier, then they could find themselves strapped for cash.
As well, a too-strong dollar is bad for the U.S. It reduces its global competitiveness, and that ultimately limits economic expansion.
It’s also bad for multinationals who make money in other countries and have to convert those dollars back to American bucks.
“There’s no debating that a stronger dollar is negative for growth,” said Lascelles.
Politics is always a risk, but Lascelles has been seeing greater shift to far right and far left politics than he has in the past.
Some of it may be just rhetoric, such as Rand Paul’s “audit the Fed” bill, but with Greece’s rebuff of the IMF and more right- and left-leaning parties getting into power, people have to wonder if the right economic policies will ultimately be put in place.
While he can understand why more populous ideas are being bandied about—rising unemployment and continued economic challenges is causing citizens and governments to think differently—rejecting sound economic policies will slow growth and make it difficult to ultimately reform, he said.
“A healthy does of skepticism is appropriate,” he added, “but in the end these are mostly unwelcome and can jeopardize an economy.”
Today the narrow-minded canyons of Wall Street are littered almost entirely of trend-following bulls and cheerleaders who don’t realize how little there is to actually cheer about. Stock values are far less attractive than they were on that day back in 2009 and this selloff has a lot longer to run. There are hordes of perma-bulls calling for a V-shaped recovery in stocks, even after multiple years of nary a downtick.
Here are six reasons why I believe the bear market in the major averages has only just begun:
1) Stocks are overvalued by almost every metric.One of my favorite metrics is the price-to-sales ratio, which shows stock prices in relation to the company’s revenue per share and omits the financial engineering associated with borrowing money to buy back shares for the purpose of boosting EPS growth. For the S&P 500 (INDEX: .SPX), this ratio is currently 1.7, which is far above the mean value of 1.4. The benchmark index is also near record high valuations when measured as a percentage of GDP and in relation to the replacement costs of its companies.
2) There is currently a lack of revenue and earnings growth for S&P 500 companies. Second-quarter earnings shrank 0.7 percent, while revenues declined by 3.4 percent from a year earlier, according to FactSet. The Q2 revenue contraction marks the first time the benchmark index’s revenue shrank two quarters in a row since 2009.
Virtually the entire global economy is either in, or teetering on, a recession. In 2009, China stepped further into a huge stimulus cycle that would eventually lead to the largest misallocation of capital in the history of the modern world. Empty cities don’t build themselves: They require enormous spurious demand of natural resources, which, in turn, leads to excess capacity from resource-producing countries such as Brazil, Australia, Russia, Canada, et al. Now those economies are in recession because China has become debt disabled and is painfully working down that misallocation of capital. And now Japan and the entire European Union appear poised to follow the same fate.
This is causing the rate of inflation to fall according to the Core PCE index. And the CRB Index, which is at the panic lows of early 2009, is corroborating the decreasing rate of inflation.
But the bulls on Wall Street would have you believe the cratering price of oil is a good thing because the “gas tax cut” will drive consumer spending – never mind the fact that energy prices are crashing due to crumbling global demand. Nevertheless, there will be no such boost to consumer spending from lower oil prices because consumers are being hurt by a lack of real income growth, huge health-care spending increases and soaring shelter costs.
4) U.S. manufacturing and GDP is headed south. The Dallas Fed’s manufacturing report showed its general activity index fell to -15.8 in August, from an already weak -4.6 reading in July. The oil-fracking industry had been one of the sole bright spots for the US economy since the Great Recession and has been the lead impetus of job creation. However, many Wall Street charlatans contend the United States is immune from deflation and a global slowdown and remain blindly optimistic about a strong second half.
Unfortunately, we are already two-thirds of the way into the third quarter and the Atlanta Fed is predicting GDP will grow at an unimpressive rate of 1.3 percent. Furthermore, the August ISM manufacturing index fell to 51.1, from 52.7, its weakest read in over two years. And while gross domestic product in the second quarter came in at a 3.7 percent annual rate, due in large part to a huge inventory build, gross domestic income increased at an annual rate of only 0.6 percent.
GDP tracks all expenditures on final goods and services produced in the United States and GDI tracks all income received by those who produced that output. These two metrics should be equal because every dollar spent on a good or service flows as income to a household, a firm, or the government. The two numbers will, at times, differ in practice due to measurement errors. However this is a fairly large measurement error and it leads one to wonder if that 0.6 percent GDI number should get a bit more attention.
5) Global trade is currently in freefall. Reuters reported that exports from South Korea dropped nearly 15 percent in August from a year earlier, with shipments to China, the United States and Europe all weaker. U.S. exports of goods and general merchandise are at the lowest level since September of 2011. The latest measurement of $370 billion is down from $408 billion, or -9.46 percent from Q4 2014. And CNBC reported this week that the volume of exports from the Port of Long Beach to China dropped by 10 percent YOY. The metastasizing global slowdown will only continue to exacerbate the plummeting value of U.S. trade.
6) The Fed is promising to no longer support the stock market. Back in 2009, our central bank was willing to provide all the wind for the market’s sail. And despite a lackluster 2 percent average annual GDP print since 2010, the stock market doubled in value on the back of zero interest rates and the Federal Reserve‘s $3.7 trillion money-printing spree. Thus, for the past several years, there has been a huge disparity building between economic fundamentals and the value of stocks.
But now, the end of all monetary accommodations may soon occur, while markets have become massively over-leveraged and overvalued. The end of quantitative easingand a zero interest-rate policy will also coincide with slowing U.S. and global GDP, falling inflation and negative earnings growth. And the Fed will be raising rates and putting more upward pressure on the U.S. dollar while the manufacturing and export sectors are already rolling over.
I am glad Ms. Yellen and Co. appear to have finally assented to removing the safety net from underneath the stock market. Nevertheless, Wall Street may soon learn the baneful lesson that the artificial supports of QE and ZIRP were the only things preventing the unfolding of the greatest bear market in history.
If crude’s slump back to a six-year low looks bad, it’s even worse when you reflect that summer is supposed to be peak season for oil.
U.S. crude futures have lost 30 percent since the start of June, set for the biggest drop since the West Texas Intermediate crude contract started trading in 1983. That beats the summer plunges during the global financial crisis of 2008, the Asian economic slump in 1998 and the global supply glut of 1986.
It even surpasses the decline of 2011, when prices fell as much as 21 percent over the summer as the U.S. and other large oil-importing nations released 60 million barrels of oil from emergency stockpiles to make up for the disruption of Libyan exports during the uprising against Muammar Qaddafi.
WTI, the U.S. benchmark, fell to a six-year low of $41.35 a barrel Friday. It may slide further, according to Citigroup Inc.
“Summer is when refineries are all running hard, so actual demand for crude is as good as it gets,” Seth Kleinman, London-based head of energy strategy at Citigroup Inc., said by e-mail.
OPEC’s biggest members are pumping near record levels to defend their market share and U.S. production is withstanding the collapse in prices and drilling. The oil market is still clearly oversupplied and “it will get more so as refiners go into maintenance,” Kleinman said.
Oil demand usually climbs in the summer as U.S. vacation driving boosts purchases of gasoline and Middle Eastern nations turn up air-conditioning.
Crude has sunk this year even U.S. gasoline demand expanded, stimulated by a growing economy and low prices. Total gasoline supplied to the U.S. market rose to an eight-year high of 9.7 million barrels a day last month, according to U.S. Department of Energy data.
Crude could fall to $10 a barrel as the Organization of Petroleum Exporting Countries engages in a “price war” with rival producers, testing who will cut output first, Gary Shilling, president of A. Gary Shilling Co., said in an interview on Bloomberg Television on Friday.
“OPEC is basically saying we’re not going to cut production, we’re going to see who can stand lower prices longest,” Shilling said. “Oil is headed for $10 to $20 a barrel.”
This article was published on The Big Picture Blog of Barry Ridholtz -July , 2015
It is well worth reviewing and keeping on hand:
This was the week Greece inched closest to chaos, as a bank holiday and a technical default caused markets around the world to erupt in turmoil. They recovered somewhat Tuesday, and futures looked stronger Wednesday morning, but on Monday, the NASDAQ Composite Index lost 2.4 percent, the Standard & Poor’s 500 Index lost 2.09 percent and the Dow Jones Industrial Average fell 1.95 percent. Volatility exploded, as the Chicago Board Options Exchange Volatility Index surged 35 percent, its biggest increase in two years, to 18.85.
One would imagine that such a scenario might be constructive for gold. It has been called the best measure of fear, the only real currency, a refuge for those who plan for panic. So how is it doing these days? Spot prices were soft on Monday, despite the wild volatility in equities, drifting down a few bucks from about $1,180 an ounce to about $1,176. They fell a few dollars more yesterday, and are soft Wednesday.
I thought gold was an investor’s best friend during Armageddon.
I have kidded the goldbugs over the years, but the muted response to the latest crisis is surprising, even to a precious metal skeptic. Gold simply can’t find a bid.
This isn’t the sort of response we have come to expect from the “catastrophe metal.” Earlier this month, gold spiked to $1,202, from $1,172, raising hopes of a turnaround. The gold mavens began to dream of a new technical setup, perhaps even a resurrection of the currently deceased trend. There were renewed whispers about $5,000 price targets.
And then … nothing.
I have been writing critically about gold since it peaked in 2011. Its story has become an object lesson in how to manage your positions without letting emotion get the better of you.
Why is gold no longer responding to global catastrophes? Nobody knows for sure, but a few different theories might help to explain its behavior in the most recent crisis:
1) The old narrative has failed. Without a new and improved rationale, buyers aren’t motivated to accumulate more gold.
2) The U.S. economy has slowly improved, and much of the rest of the world is healing, too.
3) Other asset classes have been far more productive and rewarding investments in the last five years.
The failure of the classic gold narrative, recounted in great detail last year, is one explanation. The storyline was essentially a clever sales pitch filled with specific frightening details — the Fed was going to cause hyperinflation, the dollar would collapse, and so on. All of this proved to be false.
Further reducing enthusiasm for gold is the gradual improvement of the U.S. economy. Despite forecasts of imminent collapse, the major economic data — including employment, wages, spending, housing, autos and consumer sentiment — have all trended higher over the last five years. Tales of an impending depression were greatly exaggerated.
Then there are other asset classes. U.S stocks are up 167 percent over the last 5 years. China’s stock market, despite the recent 20 percent drop, is still up almost 10 percent for the year, and it has been on fire the last 2 years.
Each of these is a possible explanation for the lack of response to the Greek crisis. Perhaps a default to the International Monetary Fund is no big deal, and gold has no reason to rally.
Regardless, gold seems to going nowhere fast. Feel free to send me an e-mail explaining how wrong and stupid I am. I have an archive of all the messages warning me that gold would teach me a lesson in humility. “You’ll see” these e-mails smugly assure me, “your comeuppance will be here any day now.” My plan was to respond to each on its fifth-year anniversary with a chart showing the performance of gold versus all other asset classes and the details of how much money has been lost.
What once seemed like a snarky and amusing idea just looks cruel today.
Gold teaches the careful observer many lessons — about narratives, emotion, managing positions, leverage, one-way, can’t miss trades, the efficiency of markets, and story-tellers with product for sale. This is why you should never ever drink the Kool-Aid.
Astute traders ignore these lessons at their own risk.
While the analysts expect gold will probably end up around $1,050, they do say an interest rate hike in the U.S., another correction in China’s stock market, and further selling of reserves by central banks could result in that worst-case scenario of $800 (and some very grumpy gold bugs).
Why the end of the era? Here’s what the analysts say:
But price stability in Precious Metals has ended. Indeed, gold and silver prices have been in trend decline since May. Why? The passing of deflation risk, anticipation of the US Federal Reserve’s first interest rate hike, another debt resolution for Greece, and the collapse in China’s equity markets (prompting loss-covering asset sales) – have all hit these prices over 8-10 weeks. So the PBoC’s announcement last week, about China’s surprisingly low official gold holdings, was really just the latest in a string of bearish events. It’s possible that the next short-term driver in metal markets will be declining oil prices (WTI & Brent down 10-16% in 4 weeks).
from Royal Bank of Canada
July 21, 2015 Precious Metals & Minerals NA Gold & Silver Equities: Stress Testing the Balance Sheets (3) Equity value erodes below $1,100/oz. With gold having dipped below $1,100/oz and silver below $15.00/oz, we have once again run a balance sheet sensitivity analysis for the North American listed precious metal producers in our coverage universe over the H2/2015 to 2018 period. As highlighted in previous research, the difference for the equities in the current gold price sell-off, versus prior price declines, is that the precious metals producers now have significantly greater levels of debt (Exhibit 2).
In conclusion, the companies best positioned to operate in a $1,000/oz price environment are the royalty-streaming companies Franco-Nevada, Royal Gold, Silver Wheaton, and Osisko Gold Royalties.
The gold producers that are best positioned to withstand a sub-$1,100/oz gold price are Acacia, Alamos, Centamin, Fresnillo, Goldcorp, Goldfields, Klondex, Newmont, Randgold, SEMAFO, and Tahoe (Exhibit 1).
While a number of companies have already cut or eliminated their dividends, we believe Barrick, Centerra, Goldcorp, Goldfields, Pan American, and Yamana could reduce their dividends. Stress testing at lower gold prices after growth capital is frozen. Our base case is $1,100/oz gold & $14.50/oz silver with scenarios at $1,000/oz & $13.25/oz and $1,200/oz & $15.75/oz.
We provide a onepage summary for 35 gold producers (Page 5) that includes: (1) annual operating forecasts, liquidity estimates and key credit ratios; and (2) a discussion of our scenario analysis for each company. We assume that the companies do not draw down on their existing short-term credit facilities, as many banks are likely reviewing the credit risk of these facilities. We model similar levels of sustaining capital and assume that new mine development capital is suspended, with the exception of development capital that is more than 50% complete, such as Goldcorp’s Cochenour project and Eldorado’s Olympias and Skouries projects. Stress test highlights $1,100/oz as a critical level •
At $1,100/oz gold and $14.50/oz silver, the North American gold sector remains ex-growth. In addition to the cost-cutting measures that have occurred to date, producers will need to place their highercost mines in harvest and accelerated closure mode or on care and maintenance. We would expect to see a reduction in management and board compensation and the use of private aircraft travel curtained. And below $1,100/oz, we believe some companies could see their lines of credit reduced or withdrawn, and companies with elevated levels of debt may be forced to hedge revenues, sell streams on mining assets, and/or raise distressed equity.
At $1,100/oz, companies that would need to continue making cuts to discretionary and fixed costs to improve their balance sheets include AngloGold, Barrick Gold, Hochschild, IAMGOLD, Kinross, Pan American, Primero, Teranga, and Timmins. • At $1,000/oz gold and $13.25/oz silver, we would expect mine production to begin to contract as mines are placed on care and maintenance or moved into accelerated closure. In addition to the cost-cutting measures mentioned above, we believe a number of the gold producers would need to consider mergers to capture operating synergies or other financial benefits. At $1,000/oz, all of the gold/silver producers in our coverage universe would continue to make cuts to operating and discretionary costs and the most leveraged companies would seek alternative sources of equity. • At $1,200/oz gold and $15.75/oz silver, we believe most of the sector can sustain their current operating mines, but mines with AISC above $1,100/oz would likely go into “harvest mode” with significant development capital spending deferred. In addition, at $1,200/oz the producers can still implement cash-saving measures, with further cuts to G&A, exploration, and sustaining capital. Priced as of prior trading day’s
$1,100 gold is a critical level for North American precious metals companies
At $1,100/oz gold, most of the companies in our coverage universe are expected to continue to cut G&A, exploration, and sustaining capital spending. We could also see producers begin an accelerated closure process for their higher-cost, shorter-life mines by spending on reclamation rather than sustaining capital and mining out residual reserves over a 2- to 3- year period. Another alternative would be to place mines on care & maintenance, which would still require ongoing security/maintenance costs, although this would avoid burning cash for longer reserve life mines during a period of high sustaining capital spending associated with major waste stripping or underground development.
However, at or near $1,000/oz gold, we would expect companies to announce that their high-cost mines are being placed on accelerated closure, even mines that previously had long reserve lives given the potential for significant cash burn. We believe that most of the gold and silver producers in our coverage universe would struggle in a $1,000 gold environment if they do not defer discretionary costs, cut capital, and close cash-burning mines.
The companies that currently have the highest AISC costs include AngloGold, Centerra Gold, Detour Gold, IAMGOLD, Kinross, Newmont, Perseus, Pan American, Silver Standard, Teranga, and Timmins Gold. High-quality producers and royalty-streaming companies We believe the current gold price pullback presents an opportunity to buy gold mining equities with strong balance sheets that offer an attractive risk-reward.
In our view, in a sub- $1,100 gold price environment, the most resilient North American listed gold producers with solid yet flexible business plans and strong balance sheets would be Acacia, Alamos, Centamin, Fresnillo, Goldcorp, Goldfields, Klondex, Newmont, Randgold, SEMAFO, and Tahoe (Exhibit 1). These companies have low net debt, a low capital spending to cash flow ratio, and low-cost mines. The gold companies with the most robust business models and in a sharply lower gold price environment are the royalty and streaming companies, including Franco-Nevada, Royal Gold, Silver Wheaton, and Osisko, which have little or no debt and minimal operating and capital exposure. Exhibit 1: NA Precious Metal Producers leverage versus AISC margins clearly show