China stimulus disappoints, as 6,000 on the cards for S&P 500
|As if this week was not busy enough, China announced a $1.4 trillion stimulus package to support a slowing economy and the potential negative impact from Donald Trump’s economic policies.
China bails out local governments
The bulk of the stimulus is linked to local government. Beijing has agreed to raise the debt ceiling from local governments to 35.5 trillion yuan, which will allow them to swap ‘hidden debt’ to the tune of 6 trillion yuan. There is also another 4 trillion yuan of special 5-year bonds that will be available to local government.
The news has fallen flat with financial markets. Chinese stocks are lower, the CSI 300 is down more than 1%, and European stocks are lower across the board. The S&P 500 is expected to open above the key 6,000 level, which is a further sign of American exceptionalism and the US’s immunity to the rest of the world’s woes. There is a risk off tone to markets today, bond yields are lower across the board and oil and some industrial metals are also lower today.
The problem with China’s stimulus measures is that they are not stimulus. They are essentially a debt swap to shore up local government’s finances. The market reaction shows that traders do not see these measures as boosting consumption, and instead they are designed to stop a financial crisis domestically in China.
Why Beijing’s stimulus won’t boost consumption
The government announced the measures by saying that the debt swaps will save around 600 bn yuan in debt interest payments over 5 years, which can then be diverted to boost investment and spending. However, it is unclear how this can happen, especially since the unwinding of the property bubble is ongoing. If the Chinese government wanted to boost investment and consumption, there are better ways of doing it than helping local government. A more effective way would be to give the stimulus directly to the consumer. The debt swap may help to ward off deflation and may mean that the Chinese economy does not get worse, however, it is not clear how it will boost consumption.
Is this the end of the road for China stimulus
The latest stimulus measures suggest that we may have come to the end of the road when it comes to China’s latest stimulus package that started in September. The initial round of stimulus in the Autumn started a record-breaking rally. However, the impact of stimulus since then has had a less positive reaction on Chinese stocks, although the CSI 300 is higher by 22% in the last 3 months.
American stock market exceptionalism set to continue
Without a stimulus bazooka from China, we can assume that American stock market outperformance will continue. Nvidia reached a fresh record high yesterday and is now the world’s most valuable company. Mid cap stocks could not keep pace with large caps on Thursday, however the Russell may be able to bounce back on Friday now that bond yields are falling.
The Trump trade is pausing on Friday, and the dollar is backing away from Wednesday’s high. The dollar index is nearly back at pre-election levels. Dollar weakness may also be a reaction to the Fed meeting. Although the Fed would not commit to the future path of interest rates, the Fed Fund Futures market is still pricing in a 70% chance of second rate cut in December, which could be weighing on the dollar.
Ahead on Friday, we will be watching to see if the US stock market closes above 6,000, a key psychological level that will likely herald another leg higher in US blue chips.
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