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Q2 2022 global markets emerging themes: surging US Treasury yields & weakening JPY (Part 2)

global markets

This article is written by CMC APAC market analysts; Kelvin Wong, Tina Teng and Leon Li

Sectors view on the US equities

As per above narratives, the central banks’ policies tend to be more on pinning down the spiking consumer price, rather than stimulating growth, in turn moving the US economy into a “stagflation” era, which may continue to direct the investment funds to withdraw from growth stocks and rotate to the defensive sectors, such as utilities, healthcare, and consumer stables. Also, we expect the energy sector will continue to lead the way in the Q2 performance because of war-intensified supply shortage and spiking inflation.

The growth stocks, typically in consumer discretionary, communication services, and technology, are expected to underperform the S&P 500, amid slowdown in growth and valuation downgrades, in which we may see variables from individual stock’s performance dependent on the cashflow conditions and the sentiment dynamics.

In addition, the bank stocks may suffer from a potential credit crunch due to rising borrowing cost, along with the extending sanctions on Russia.

S&P 500 Sectors Performance

Source: TradingView (click to enlarge chart)

Trend of China’s yuan from 2020 - 2022

Reviewing the trend of yuan in the past two years, the USD/CNH has entered a trend of substantial depreciation since May 2020.

Source: CMC Markets (click here to enlarge chart)


The 2-year outperformance of the yuan against the US dollar is also evident across the board as well. The CFETS RMB index that measures the value of the yuan against a basket of 24 major currencies has surged by more than 16% since June 2020 versus a 12% gain seen solely against the US dollar.

Source: CFETS (click here to enlarge chart)

Since November last year, the US Federal Reserve has started to embark on a tightening cycle of debt reduction, interest rate hike and balance sheet reduction. In contrast, China's monetary policy has flipped to a targeted expansionary mode where China central bank, PBOC cut the reserve requirement ratio of commercial banks and benchmark lending rates. However, despite a more hawkish monetary policy guidance engineered by the Fed versus a dovish PBOC’s mandate has failed to stop the appreciation of the yuan against the US dollar.

The logic behind yuan strength: PBOC tightened its monetary policy regime after May 2020 while the Fed maintained its quantitative easing programme. The long-term strength of a currency depends on the fundamentals of a country. China is the first country to recover from the COVID-19 pandemic crisis and its 2021 GDP growth rate surpassed the rest of the world in general which in turn attracted a large amount of international capital inflows that led to a persistent trend appreciation of the yuan.

However, the current yuan’s strength is likely to be restrained in Q2 2022, mainly because the Fed will implement a more rapid interest rate hike cycle and a higher quantum of quantitative tightening regime to reduce its $9 trillion worth of bonds on its balance sheet. In addition, China's manufacturing sector has suffered a severe contraction in March, hence such weak economic data may prompt PBOC to bring forward and fasten its pace of monetary policy easing.

In the context of China's economic downturn, the conclusion of the Q4 2021 PBOC meeting stated that the first goal of its monetary policy was to maintain economic stability. Judging from this statement, the main aim of subsequent monetary policy decisions will shift towards achieving stable growth and hence going forward, the monetary policy environment may become more accommodative which will likely trigger some downward pressure on the yuan.

China policy makers have always been implementing a balanced control on the yuan. Specifically, they do not want it to rise or fall significantly and China's manufacturing industry has experienced a significant slowdown in growth due to sharp appreciation of the yuan, the recent outbreak of the Covid-19 infections in major commerce hubs such as Shenzhen and the rise of raw materials costs. Thus, it is necessary for China to achieve a stable exchange rate since the manufacturing sector has a significant contribution to its overall economic growth. 

Does that mean a major down move is on the cards to reverse the recent yuan’s strength? Since the last global liquidity easing cycle in 2020, a strong yuan has become a favourite for overseas capital and after the Fed has kick started its current interest rate hike cycle, there may be an increase pressure for overseas capital to convert their yuan-based financial assets holdings into US dollars. In conjunction, if PBOC allows the yuan to depreciate sharply, it could encourage foreign capital to scoop up China's core assets that may be detrimental from a national security standpoint. As a result, China will not allow its currency to depreciate significantly as it aims to achieve a stable GDP growth of 5.5% in 2022, so the downside is expected to be limited.

How will the real estate industry be affected?

Since last year, China has begun to implement policies to deleverage the real estate market by introducing the concept of "housing is used for living and not speculation" which in turn caused a significant credit crunch for many property developers that increases the risk of bankruptcies and default on their debt obligations. To alleviate the credit crunch situation, PBOC has started to ease its monetary policy since late last year and inject liquidity into the property market.

Source: Tradingview (click to enlarge chart)

Since mid-March 2022, China's real estate sector has seen a sharp upward rebound, mainly due to less stringent deleveraging policies. Policy makers have enacted a series of supportive measures for the real estate sector such as mergers and acquisitions, credit easing, support schemes for reasonable financing demand to boost market confidence.

More than 60 cities have eased restrictions on home purchases, lowered down-payment ratios, provided home purchase subsidies, lowered mortgage interest rates and provided financial support to real estate companies. A tax on multiple properties has also been delayed. In this case, shares of many real estate companies have rebounded by more than 50%. However, it should be noted that this recent rebound does not mean a revival of strength in the long-term fundamentals of the real estate sector. At the present, most of the real estates’ accommodative policies are carried out in China's second and third-tier cities and there is no obvious change in policies that governed the first-tier cities' real estate market.

China's main goal on the property sector is to achieve a "soft landing" and does not want a return to an unstable high growth environment driven by excessive leverage. However, as real estate contributes a very large proportion of China's GDP, the realization of China's 5.5% GDP target for 2022 depends largely on the real estate sector, so it needs a loose monetary environment to support it. To sum it up, the current pace of sharp rebound in the share prices of real estate companies is likely difficult to persist and some retracement on its share prices is expected in the short term. However, in the context of monetary policy easing, the share prices will be stable overall in the medium-term.

How will China tech stocks perform after oversold conditions?

Chinese tech companies such as Tencent, Alibaba and Meituan have continued to see significant declines in their respective share prices this year, mainly due to the Russia-Ukraine war, foreign regulatory repression and the recent COVID-19 outbreak in China.

In the current environment, the Chinese government has begun to use policies to support these tech companies such as to allow them to list overseas. On 16 March, the Financial Commission of the State Council held a special meeting that emphasized that it would actively introduce policies favourable to the market and introduce contractionary policies prudently which implied that the past one-year of stringent regulatory clampdowns on the business practices of technology platform companies may end soon.

In addition, several listed companies have implemented large-scale share buyback programmes such as Alibaba.

China and US regulators have recently held several rounds of talks with the aim of resolving some lingering issues in cross-border regulations that in turn reduces the odds of China ADRs being delisted from US stock exchanges. All in all, these latest developments have managed to ease the negative sentiment which will likely help to slow down the pace of the major downtrend of China tech stocks.

Click here to read Part 1 of Q2 2022 global markets emerging themes

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