Charting around Asia

The Dragon's Tale!

by John Needham, The Daniel Code Report | November 20, 2008

The bear market continued to growl in Asia with signs of capitulation from significant money managers as Asian stocks fell today, extending a global rout. Japan's exports declined the most in almost seven years and U.S. consumer prices dropped by a record. “It's the end of the world as we know it,”' said Raymond Tang, who oversees $5.8 billion as chief investment officer at CIMB-Principal Asset Management Bhd., a unit of Malaysia's second-biggest bank. The economic slump is ‘the worst I've seen on a global scale, with no region to help each other,” he said.

“Long-term investors would be better off staying out of the stock market right now,” said Takashi Kamiya, who helps oversee $16 billion as chief economist at T&D Asset Management Co. in Tokyo. “There's nothing to be positive about.” Obviously long only fund managers are not attracted to my oft repeated assertion that we are having an overdue return to more normal markets, where valuations have to be earned and proved, not merely assumed on the querulous assertion of a ratings agency or stock analyst. Those assets that rose on a sustained burst of liquidity inspired euphoria must return to their appointed places in the market universe, but the overdue dose of reality has come too fast for most who have no vision of what those realities will entail and who are merely clinging to hope for the good old days to roll again. Casualties are mounting.

Pakistan is insolvent and starts its IMF bailout, Japan officially goes into recession but offers $100 billion in additional funds to help the IMF with its serial bailouts of the irresponsible and imprudent, China announces a $586 billion bailout plan which markets mistakenly think is good news as the Shanghai Composite Index rallies 7.2%, Japan’s Nikkei jumps almost 6% and the Hang Seng Index in Hong Kong gains 4.5% on the day. US traders who should know better ape their Asian friends with a one day rally in the Dow.

In Australia, BHP personifies that well known Down Under characteristic denial, by refusing to acknowledge that iron ore shipments to China have stalled as the Baltic Dry Index of charter rates for very large bulk carriers crashes by 90% and global giants Vale and Rio Tinto announce cuts and postponements in their scheduled ore shipments to Asia. In Taiwan the pro independence former President Chen Shui-bian is jailed on allegations of corruption and starts a hunger strike to protest his arrest and highlight his claim that the charges are politically motivated and designed to curb feared demonstrations as seen last week during a landmark visit by high ranking communist officials to Taiwan.

In New Zealand, together with Australia, challenging UK for the title of highest household indebtedness, the global credit crunch has arrived at the wholesale level but reality has so far failed to morph into the national consciousness. With a national election playing out at the same time as US Presidential elections were being held, the “R” word was not mentioned by either of the main parties. The refinancing crisis that Australia and New Zealand are undergoing has necessitated government guarantees of the Four Pillar’s wholesale borrowing arrangements as well as the guarantee of bank deposits by the Federal government.

For Asian and Down Under punters the variance of either acknowledgement or recognition of global problems is occurring at a staggeringly uneven rate. Dislocation between perceptions and reality is immense. Some of this is caused by perception as a function of media cultures and some by real variances in consumer credit structures.

China: Shanghai (95.2) exhibits exuberance in this current MWICC with an above 90.0 index score or very high optimism on all factors. Sentiments on Quality of Life (100.0), Economy (99.2), Employment (95.9) and Stock Market (91.0) are at record high. MasterCard consumer confidence survey Q2 2008.

Whatever Shanghai sees is through the other end of the telescope from what markets are saying. From NY Times:

Factories Shut, China Workers Are Suffering

Wang Denggui, father of three, arrived more than a year ago in the palm-lined streets of this southern town with a single goal: toil in a factory to save for his children’s school tuition.
Workers who lost their jobs at China Top Industries, a factory in Chang’an, lined up this week for a government subsidy. Officials are trying to avoid worker unrest. But the plans of Mr. Wang and thousands of co-workers unraveled at noon on Nov. 1, when the Taiwanese chairman of their ailing shoe factory climbed over a factory wall to flee the country and his debts. That left several American shoe companies with unfilled orders and 2,000 workers without jobs.

“He just ran without telling anyone,” Mr. Wang said.

For decades, the steamy Pearl River Delta area of southern Guangdong Province served as a primary engine for China’s astounding economic growth. But an export slowdown that began earlier this year and that has been magnified by the global financial crisis of recent months is contributing to the shutdown of tens of thousands of small and mid-size factories here and in other coastal regions, forcing laborers to scramble for other jobs or return home to the countryside.

Furthermore, the slowdown inhibits China’s ability to work with other nations in alleviating the worldwide crisis.

The Pearl River Delta, known as the world’s factory, powered an export industry that pushed China’s annual growth rate into the double digits and provided work for migrants from interior provinces with poor farmland. But circumstances have changed quickly. The slowdown in exports contributed to the closing of at least 67,000 factories across China in the first half of the year, according to government statistics. Labor disputes and protests over lost back wages have surged, igniting fear in local officials.

After the shutdown of their shoe factory, called Weixu in Chinese and China Top Industries in English, Mr. Wang and some co-workers took to the streets in protest, demanding two months of back pay, or $440 on average. The government called in the riot police. Seven workers were thrown in jail and six were beaten, including Mr. Wang, he said.

“I plan to return home once I get my money,” Mr. Wang said as he stood outside the factory on Tuesday, showing the bloody shin wound that he said resulted from a blow from a metal baton. (The police declined to comment.) “I’m over 50 years old, and I won’t be able to find work. I’ll just retire.”

Under pressure from Beijing to maintain social stability, local officials are also trying to tamp down unrest by doling out back wages. Here in Chang’an, after the worker protest, the government shelled out more than $1 million to pay back wages to most of the workers at the shoe factory. (Mr. Wang and some other laborers say they are still without back pay.)

The slowdown in exports has accelerated a major shift in the nature of Chinese manufacturing: small factories that were already being pinched by rising costs of labor, transportation and raw materials, as well as by the appreciating yuan, are closing en masse. That is especially the case in these towns scattered around the city of Dongguan, known for churning out low-end products. Soon the labor-intensive factories that rely solely on migrant work could disappear from southern China, and foreign companies could contract with similar factories in Vietnam and other countries where costs are lower.

“There’s very serious damage being done down there, I don’t deny it, and I think it’ll get worse because we haven’t seen the full impact of the economic downturn in Europe,” said Arthur Kroeber, managing director of Dragonomics, an economic research and advisory firm based in Beijing. “I think next year we might see export growth in the country as a whole go down to 0 percent.”

The export sector is still growing but has slowed considerably; year-on-year growth was at 9 percent in October compared with 26 percent in September 2007, Mr. Kroeber said.

The social problems arising from the slowdown have stirred anxiety in the top leadership of the Communist Party, whose legitimacy is based on maintaining economic growth. Prime Minister Wen Jiabao is pushing for policies that will increase domestic consumer consumption to wean China off its reliance on exports. Last Sunday, the government unveiled a stimulus package worth $586 billion over the next two years — the largest ever announced in China — to help create jobs, mostly by building new transportation infrastructure.

Foreign governments expecting China to take the lead in addressing the global crisis will be disappointed, say analysts and scholars. Chinese officials say they are focused on trying to ease domestic problems and keeping the country’s annual growth rate above 8 percent, which they see as vital to generating enough new jobs. Some analysts say economic expansion could drop to as little as 5.8 percent in the fourth quarter this year, down from about 11 percent in 2007.

Chang’an is in an area of China called the world’s factory.

“I think China foresees that it’ll need to spend a lot of money to get itself out of the current domestic situation,” said Victor Shih, an assistant professor of political science at Northwestern University who studies the political economy of China. “On the global financial crisis, China will not take a leading role.”

The mass layoffs have led to a profound change in the movements this year of migrant workers like Mr. Wang who spend virtually the entire year away from home. Many are heading home early for the Chinese New Year, in late January, and say they might not return to work in the coastal regions. A worker in the railway station in Guangzhou said that from Oct. 11 to Oct. 27, there were 1.17 million passengers on trains leaving the station, an increase of 129,000 over the same period last year. There have been reports of a similar jump in other regions.

Once in the interior, the workers will have less incentive than in the past to return to the coastal provinces. Rising grain prices have made farming more profitable. The Chinese government announced a rural land reform policy last month that could spur some farmers to stay on their land and make better use of it.

I can’t quite fathom how 91% were optimistic about the sharemarket even allowing that some time has elapsed since the MasterCard survey was effected, but this is what China’s stock market is really doing:

Japan: After staging a strong comeback from long and deep pessimism in 4Q 2003, Japan's MasterCard Worldwide Index of Consumer Confidence (MWICC) had improved from a mere 17.4 (in 2Q 2003) to 45.4 at 2Q 2005, to four consecutive optimistic indices of above sixty. Then starting Period Ago (48.6), Japanese consumer confidence wavered suggesting a touch of pessimism. Now, the outlook for the next six months is rather pessimistic.

From The Australian.

Economists and policy makers have long wrung their hands about Japan's excessive reliance on export manufacture for growth and corporate profitability. The September half-year earnings season shows that vulnerability risks becoming a gaping wound.
For exporters and offshore manufacturers, markets are bad and worsening much faster than almost anyone anticipated mid-year. And the overall health of the Japanese economy is so closely geared to the performance of its outward-bound industries that their earnings deterioration is probably a more reliable indicator of what lies ahead than GDP or its components.

The "Sony Shock" three weeks ago, when the home electronics and entertainment giant warned of a 58 per cent cut in operating earnings for the year to March 31, was a powerful illustration of the double crunch from slumping global sales and the yen's rapid rise against every other important currency.

Last Friday brought the "Toyota Shock", a forecast 74 per cent full-year earnings fall which, as with the Sony event, knocked the Tokyo market flat just as it was attempting another feeble recovery. Sony's profit warning was the group's second downgrade this financial year. But some smaller electronics companies have downgraded twice in the past two months.

A Nikkei survey of almost 1000 non-financial companies that had reported by last Friday found a 26 per cent average forecast profit decline, year-on-year.

Manufacturers, however, anticipate a 32 per cent contraction. The auto sector, one of the most internationally exposed, is now expecting an average 59 per cent decline.

Even two months ago, there was a certain amount of whistling in the dark here about the US prospects of averting a serious recession and about the stabilising effect of Japan's relatively undamaged financial system. There is no whistling now, just fearful muttering about where the next blow comes from: a Chinese manufacturing recession? The greenback crumbling to send the yen even higher?

But most of all, the realisation has finally taken hold of Japan's own dangerous over-reliance on exports. External trade is not by any means a large proportion of the economy -- 17 per cent of GDP, the lowest ratio of all G7 nations but the US -- but, in absence of any prolonged domestic vigor, it is the country's single growth engine.

Preliminary GDP figures due on Monday will likely show either fractional growth in July-September -- from the sharp slowdown of the previous quarter, minus 3 per cent annualised -- or another contraction to confirm that, by the standard definition, the world's No2 economy is in recession. Whether or not measured conditions meet the textbook definition of recession may be beside the point, given that "official Japan" has already acknowledged that the economy is actual recession.
The numbers however will confirm that domestic demand contracted for the sixth successive quarter. In other words external demand, the net of exports over imports, is all that has kept the Japanese economy growing since early 2007.

The other main reason export reliance hooks so directly back into overall economic performance, points out Jesper Koll, is corporate profitability. "Over the last three years, between 95 and 98 per cent of the growth in Japanese corporate profits comes from exporting to the rest of the world or from producing in the rest of the world". Koll calculates that if global economic growth reduces from 4 per cent to 2 per cent and if the yen/dollar strengthens from Y105 (the average rate most exporters expected at the outset of the financial year) to Y95, those companies' average pre-tax profits will decline about 50 per cent in a full year.

Since the bursting of the Bubble Era in the early 1990s, policy makers have talked endlessly about reinvigorating domestic activity, but the most notable realignment in that time is that the export sector's share of GDP (which does not take into account offshore production by Japanese firms) has grown about 70 per cent, from about 10 per cent a decade ago to 17 per cent.

This is hardly surprising. While the rhetoric has blown in the direction of domestic revival, most corporate practices and government policy has pushed in the opposite direction.

Wages and full-time workforce participation have been ground down, explicitly in the name of international competitiveness; the domestic returns on both savings and investment have been kept miserable while companies, both home-focused and outward-bound, have hoarded earnings for capital investment.

The yen has been kept unnaturally weak, albeit without currency market intervention for the past four years (and even now, in spite of the sharp appreciations of the past month, yen/dollar exchange rates are only returning to the average price-adjusted level of the past 30 years) and punitive tax treatment of repatriated income has encouraged Japanese companies to hold foreign earnings permanently offshore.

Now, belatedly, there are government policy efforts to shift the balance -- Taro Aso's Government has passed two relatively modest domestic stimulus packages, containing new spending initiatives totalling Y6.8 trillion (about $104 billion) but heavily focused on cost relief for families, rural industries and small-to-medium businesses. This, if recent experience is any guide, will encourage saving rather than spending.

The taxation of offshore profits anomaly is finally being corrected, though any prospect of major near-term repatriation of corporate funds has been blown away by the yen appreciation.

The big export manufacturers, who only in the past 12 months have grudgingly acknowledged the social and domestic economy imperative to increase real wage levels and to curb rampant "casualisation" of domestic industrial workforces, are now backtracking, citing international cost competitiveness in the face of an appreciating currency abroad and job insecurity at home.

But perhaps the biggest impediment to changing the intense export focus of the Japanese economy is that the companies that have persisted and succeeded in globalised manufacturing are the best suited for survival even in a severe global downturn.

The Nikkei quarterly chart below gives a graphic picture of what happens when liquidity fuelled bubbles are encouraged and then treated by a failure to allow markets to deal with the bad actors. Japan’s policy of propping up insolvent banks, keeping interest rates near zero and the liquidity pumps at fast forward are the policies now being followed by Bernanke and western governments. We can look forward to similar results.

To highlight the uncertainty in Asian markets, Bloomberg reports that Mitsubishi UFJ Financial Group has announced a 64 per cent interim net profit drop. The result rules off an awful September half-year for Japanese banks and signals tougher credit restrictions on business and corporate borrowers as banks move to shore up their balance sheets. MUFG, the biggest by assets of the Japanese megabanks, recorded a September-half net profit drop from Y256.7 billion (about $4.13 billion) to Y92.2 billion, on operating revenue down 10 per cent.

The major Japanese banks have been belted by rapidly deteriorating loan portfolios and valuation losses, averaging 30 per cent in the September half, on their still-extensive equities holdings. Economy Minister Kaoru Yosano said yesterday he was "not confident at all" the national economy would grow before March 2010, indicating he shared the fears of some market economists that Japan could be in for a 20-month recession. "Looking at conditions at home and abroad, it is difficult to find factors that would contribute to turning GDP into positive territory," he said. Net earnings by the top six Japanese banks fell an average 58 per cent in the period. The other two, smaller, national banks fell into the red.

Lending losses and debt provisioning by the three megabanks for the six months were double their original projections. Rapidly deteriorating economic conditions, especially in the regions, and the need to bolster their own core capital ratios, is sharply constricting the major banks' domestic lending.

By contrast, the head of Nomura Holdings, Japan’s largest brokerage, Kenichi Watanabe has today declared that the global liquidity crisis is over. That may be, given the amount of money that central banks have thrown at the banking system but financial leaders have consistently confused liquidity issues with solvency issues.

I think they still are.

Australia: Australians unlike Period Ago (64.9) and Year Ago (68.3) have in this 2Q MWICC (42.8) turned pessimistic about the next six months, not just overall but on Employment (39.8 vs 55.5 Period Ago vs 63.7 Year Ago), Economy (38.8 vs 61.4 vs 68.8), Stock Market (44.0 vs 62.8 vs 75.8) and Quality of Life (32.7 vs 60.8 vs 58.7). Australians are currently more pessimistic than they had been historically (56.8).

The Australian:

A grim silence will descend on the planet's car factories this Christmas as the assembly lines stop and vehicles, normally made by the million every week, cease being built.
Everywhere the lights will be switched off for longer than usual this holiday season, with scheduled shutdowns extended by weeks. Millions of car industry employees will leave their places of work uncertain if they will have jobs when they return. The automotive industry has entered a winter of unparalleled severity that threatens to change the landscape forever. The extent of the crisis is measured in billions of dollars and dwarfed only by the plight of the finance sector. Even the most successful car companies, such as Toyota, are feeling the pinch of a worldwide slowdown that is slashing demand for vehicles, throttling cash for investment and causing share prices to plummet.

Events are moving so quickly it's hard to keep up. This week General Motors shares were trading below $US3 ($4.50) -- an 88 per cent fall this year. When it should be celebrating its 100th anniversary, GM has been closing factories, laying off employees and now verges on bankruptcy. So profound has been GM's demise that the $6.2 billion pledged by the Rudd Government to help the Australian industry this week would have bought GM and left change.

The scale of the market turnaround has taken every car maker by surprise. In the US, demand plummeted 32 per cent last month and is running 15 per cent below last year, 2 million units down.

It's almost as bad in Western Europe, with sales down 6 per cent for the year to date. But precipitous falls in October accelerated the trend.

British sales dropped 23 per cent in October, Italy 19 per cent and Spain 40 per cent. The other big markets, Germany and France, are on the slide.

In Japan, sales are running at their lowest level in more than three decades while previously booming zones such as China, India and Russia have gone into reverse.
Australia has been treated less savagely so far. The car market has achieved records in five of the past six years, culminating in a million-plus figure for the first time last year. However, the signs of a slowdown are now rattling even the optimists, such as Mazda, or the exclusive, such as Rolls-Royce.

Sales in October were down 11 per cent on the same month in 2007 -- the fourth consecutive decline. No one believes the industry will go anywhere but backwards next year, with a 5 per cent drop the most optimistic estimate. "There's no way you'd expect next year to be better than this year," Lexus Australia chief executive John Roca said this week. "Consumer confidence is the biggest issue." The financial crisis has added a new dimension to the industry's problems -- and it was already in ordinary shape.

Car makers need constant funding on a mammoth scale and it's increasingly hard to get, especially when their credit ratings are being mauled.

At retail level, finance companies are in retreat. In Australia, the recent move by GE and GMAC to withdraw from the financing of showroom stock, known as floor plans, threatens hundreds of dealers with closure. The remaining finance players, such as St George, will be increasingly picky about the risks they take on.

In Australia, our exports will be more competitive with the recent fall in the value of the dollar, but this year 83 per cent of buyers are choosing imports, and they'll get more expensive. That won't happen, though, until current stocks are cleared, and they're at record highs. Newly appointed Ford Australia chief executive Marin Burela said it had a 43-day supply of locally made cars and a 60-day backlog of imports this week -- far more than needed. That's just months after launching its new Falcon, usually a fillip to sales. Business fleets, the last buyers standing in Australia this year, are now applying the brakes. Fleets are holding on to vehicles for four years rather than three, according to consultant Tony Robinson of Innovation Sureplan, and putting more kilometers on the cars. The three local makers rely on fleets for at least 75 per cent of their sales.

Into this climate the Rudd Government injected $6.2 billion this week to extend transitional assistance to the industry by six years, to 2021. The plan includes $3.2 billion in new funding and expansion of the green car fund to $1.3 billion.

Aside from a reduction in tariffs, the scheme gives the local industry everything it wanted and more. However, Burela says, the money was "never enough" and declined to say whether it guaranteed Ford's presence in Australia. Car makers everywhere have their hands out for government money, but in Australia's case there's a crucial difference.

With the departure of Mitsubishi early this year, Australia has wholly owned outposts of GM, Toyota and Ford. Overseas reports have already raised the possibility that design and engineering work will be taken from GM Holden to the US. The US Congress will set tighter conditions on its assistance than Australia, and will expect its low-interest loans to be repaid. It may even take a stake in the car companies. The mistakes of the US parents have been mirrored by their Australian outposts. GM Holden and Ford have kept making large sedans despite a decade-long decline in demand for them.

Large cars now account for less than 12 per cent of the Australian market as buyers have switched into smaller cars and SUVs. This year, private buyers -- as opposed to fleet buyers -- of locally built vehicles will account for less than 5 per cent of total sales. However, the locals have kept making them regardless and watched, seemingly helpless, as their sales have suffered and losses mounted. Only Toyota is making a profit thanks to its huge import operation.

This is how the Australian share market is returning to reality after the liquidity spigot of $34 billion in margin loans has been reduced by only one-third. The Danielcode black line at 3141 beckons and equates to the present level of major US markets.

And this is what happens when “carry-trade” currencies cease being carried!

International Markets

Oil continues its post speculative blowoff adjustment as are all the commodity markets

Rice is only correcting its 2005 swing so far which points to continued elevated prices in this market.

Gold and Silver have taken different turns. Both have normalised from their respective speculative bubbles but Gold although down 28% is only correcting the minor swing so far and remains in a strong position. On a monthly chart Gold’s pullback looks corrective and selling has been subdued at these lower prices.

Silver by contrast has given up over 55% since the Danielcode called its top in March. It is correcting the whole swing from the 2001 lows.

US Dollar Index continues its rally out of the March lows and will now reach the Danielcode black line at 90 before it encounters significant resistance on the monthly chart.

I invite you to visit the Danielcode website where we have a selection of Financial Sense articles and videos covering Gold, forex, commodities and other topics including learn to trade videos for those who seek to know more of the charting and trading world.

Watching Bernanke, Paulson, George Brown and now Angela Merkel repeat Japan’s doomed experiment of flushing a failed economic model with liquidity which is what created these serial market bubbles in the first place is painful for investors. And there is more to come as the global banking ills have barely touched the fringes of the real economy. The question not loudly asked by those who should, is why would you trust the arsonists to extinguish the fire. The farce of the recent G-20 meeting shows that for many, that is still their hope!

Those who cannot remember the past are condemned to repeat it. George Santayana

CAUTION-The Daniel numbers on these charts are from historic sequences that may not be current at the time of publication. They are appended for historic interest only. Do NOT use these numbers to trade markets. Current Daniel sequence numbers for most currency crosses are available to subscribers at the Danielcode website.

John Needham is a Sydney Lawyer and Financial Consultant. He publishes The Danielcode Report and writes occasionally on other markets. He lives with his family in Australia and New Zealand.

�The fox knows many things, but the hedgehog knows one big thing. A Hedgehog Concept is not a goal, intention or strategy to be the best. It is an understanding of what you can be best at. The distinction is absolutely crucial�. ~ Isaiah Berlin, The Hedgehog and the Fox

Contact Information

John Needham | The Danielcode Report | Taupo, New Zealand | Email | Website