Weekly Thoughts: September 30, 2024

Equities enjoyed a third straight positive week, with the S&P rallying +0.62% while the Nasdaq moved +0.95% higher. Macro data was mostly positive as the Q2 GDP revision came in at 3%, another shot at the imminent recession crowd and Friday’s PCE result was excellent, with August beating expectations at +2.2%. Market reaction was more of a shrug as it was received as further confirmation that inflation is cooperating and the realization that the Fed has shifted its focus to the growth/labor market side of the dual mandate. Our expectations for inflation data over the coming month is in line with the Fed’s belief that the trajectory remains lower pricing pressures. For the data to be market moving, it would have to surprise on the upside.

Despite the significant economic data, the story for last week was the massive fiscal and monetary stimulus move in China. As a backdrop, the Chinese economy has disappointed with poor growth, lower consumer spending and a real estate issue that has been a drag on the economy. The size of this move reminds us of the then ECB Chairman Mario Draghi’s famous “whatever it takes” quote. In a press conference, PBOC Governor Pan Gongsheng outlined multiple stimulus measures that sent markets surging. Broad rate cuts, lower mortgage downpayment minimums and allowing financial firms to borrow from the central bank to purchase stocks. The goal is to reinvigorate consumption and markets.

Time will tell if this “bazooka” of stimulus will be successful in the longer run but for now, investors went aggressively long Chinese equities. It is important to understand that Chinese equities have been a massive laggard over the last few years and therefore, enormous short positions were in place. The run higher was likely exacerbated by short covering. The Shanghai Index rose +12.81% last week, bringing the YTD gain to only +3.78%. [Note: The Monday session is up approx. 8% more, so the short covering and euphoria continues] Hong Kong went along for the ride with a +13.00% rally and companies around the globe with significant exposure to the Chinese economy also benefited. The domino effect-initiated bull moves in commodities with the Bloomberg Broad Commodity Index rising +2.24% and individual commodities such as Lithium [+15.61%] & Uranium [+7.06%] enjoyed large gains as optimism for Chinese demand in the new economy/energy space exploded.

What is hard to determine Is if these actions can spur more than just domestic consumer activity. Did the multiple stimulus measures merely cause a market stampede by crushing short sellers and will the rally be short lived? A sober look at the investing landscape in China is that government actions are not welcoming to the foreign investment necessary to build confidence and regain the capital flows that existed before the unfriendly maneuvers that cast a chill on “private businesses.” Or as we concluded: there really are no such thing as private companies in a communist country, even one that is a hybrid, embracing parts of the capitalist model but choosing at any time to adjust law and squelch business confidence. An example is the recent threat to put PVH, Tommy Hilfiger & Calvin Klein’s parent company, on the national security blacklist or the detainment of an economist who criticized leaders on private chat.

While books will be written about the Chinese economy and government dysfunction over the past 5 or 6 years, an examination of Foreign Direct Investment tells the story how business leaders and investors around the world view the safety of rule of law in the Chinese economy—money flows to where it is treated best. FDI recent peak was in Q2-2023 at $87.8 billion on a quarterly measurement. Over the past four quarters it has plummeted and turned negative the last two quarters, with the most recent measurement of -$27.1 billion in Q2 2024.

Therefore, while it is logical to get excited with this size of government stimulus—after all, like Pavlovian dogs the past 14 years, investors in developed markets have done well to jump along for the ride, damn the future government debts and activist Central Banks. However, China is a different story and the best this author can say, unlike buying quality companies in countries dominated by the rule of law, the basis for investing, jumping on board is more a trading decision rather than long term investing. One may do quite well, but their investing head must be on a swivel as the rules and laws could change overnight. We all recall the bizarre disappearance from public view of Jack Ma, China’s most famous entrepreneur, in 2020 after he questioned regulators in a speech.

Monday is the final day of Q3 and while September is often mentioned as the weakest month for equities, we enter the final day with a positive 1.6% return for the S&P. The upcoming week will be punctuated on Friday with the release of the non-farm payroll and unemployment rate report. Initial jobless claims along with the ADP jobs report on preceding days will provide some light on the labor situation which is of paramount importance. Economists will firm predictions for the next FOMC meeting, which is universally expecting a cut, but the 25 or 50 debates will rage again. We believe that economic slowing will continue but it will not follow as linear path. Plenty of the data recently released and we expect in the future will show solid to strong results along with the occasional weak report.

Other closely tracked economic reports include ISM Manufacturing, construction spending, factory orders as well as multiple Fed speakers. We will be paying close attention to bond yields as the longer dated maturities, after a strong rally in advance of the recent Fed action, have drifted modestly higher with the 10-year hanging in the 3.75%-3.82% range. Our expectation, even with further Fed cuts, is for that longer maturities will require a greater degree of slowness in the economy to make significant headway for lower yields. As it stands now regarding economic data, as short rates come lower, the yield curve may will steepen as the treasury market begins to focus on the massive amount of issuance on the calendar.