Sometimes, no matter how right you are you can still lose money.
On Thursday hedge fund manager Kyle Bass of Hayman Capital told Reuters that China’s credit problems are “metastasizing” and that he still expects the yuan to fall 30% against the dollar when it does.
It’s a bet he’s been making since February of last year, and the currency has mocked him for his efforts. After a 2% devaluation in the summer of 2015, the yuan rallied, gaining 2.1% in 2017 alone. Of course, that doesn’t mean that the country’s problems with debt have disappeared. The banking system is indeed fragile.
“What the public narrative is and what they have been doing behind the scenes are two completely different stories,” Bass said in a telephone interview with Reuters. “China has been masterful controlling the public narrative. As a fiduciary, I have no idea how anyone can invest in China.”
Fair enough. There’s plenty of reason to believe that the relative stability China has been enjoying in 2017 is coming to an end.
Solid May export numbers look about as good as it’s going to get as “the export outlook is for sustained if unspectacular growth,” according to Bloomberg economist Tom Orlik. A crackdown on financial products is making already scarce liquidity even more scarce. Corporates are running out of funding options as short-term borrowing rates for even AAA rated companies rise. Increasingly they’re turning to more risky lenders to get money. Banks are pushing more high yield products to try to get some cash.
There are problems everywhere.
So, Bass is right. This is as good as it’s going to get in China. After Xi consolidates power at a party meeting at the end of 2017, he’ll turn his all-seeing eye on the Chinese economy.
And that is when Bass will find out that he is also wrong.
“Guys like Kyle Bass sees China as a commercial financial system. It’s not,” said Lee Miller, founder of China Beige Book, a private firm that collects Chinese economic data. “Foreign exchange reserves aren’t even full fire power, there’s $US800 billion more in the banking system at the government’s disposal.”
“All their banks are insolvent technically, but that doesn’t mean the system can’t support them,” he said.
That is to say, everything is at the government’s disposal. Bass is expecting a CRASH/BANG to signal the end of the Chinese miracle and an eye-popping devaluation that rewards the impatient (a year, after all, is not very long in the world of economics).
But what Miller sees is a process that will take a very long time — a gear grinding painstakingly slowly to a halt.
So what’s going to happen to the $US3.054 trillion of foreign exchange reserves China holds? What is its destiny?
It will serve to “fight leaks that pop up in your hull,” said Miller. “And they [the Chinese] can keep doing it [the cash]… goes to the biggest problem first.”
And if that problem is a yuan declining in value — after all the effort the People’s Bank of China has put into making sure the currency is stable — then that’s where that money is going to go. The last thing the country’s leaders want is capital flight and/or a decline its people’s purchasing power. The yuan is key here, and it will be treated with care.
What will not be handled with care is up to the government’s discretion. Big banks will likely be allowed to survive, as will be companies with AAA ratings, even as their yields hit record highs. The Chinese can’t save everything.
But they will try to save the yuan.
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