By Jim O’Neill, Chairman, Goldman Sachs Asset Management.
Washington and Beijing.
This week has been an important news week, at least for the media, for political developments in the US and China. I would question whether anything has materially changed as a result of the US election and the Chinese leadership handover. The stock markets seem to think so – for the worse – but I shall discuss further.
Before I do this, I shall give a quick review of other bits and pieces that I have recorded in my little notebook since my last Viewpoint two weeks ago.
Some Bits from the Growth and Emerging World.
I spent a week on holiday in Morocco the week before last, much of it walking in the lower Atlas Mountains, but finished up with a couple of days in Marrakech. I frequently pondered the potential big picture opportunity for ‘MENA’ countries, Morocco included, while I was there. This was because most of the people we chatted to talked about the tremendous (positive) change in recent years. And of course, Moroccan citizens don’t seem to have shared the protest enthusiasm of some nearby North African countries.
Mind you, I would also add that some of the changes don’t seem quite as strong as many other places. It took me the best part of the first 70 minutes of the Man United v Arsenal game to find a venue to watch it in, and the last 20 minutes was not too enthralling. I suspect Gooners (Arsenal supporters) found the whole 90 minutes rather numbing.
A few weeks ago, I mentioned an article I was sent on Bangladesh, one of our N-11 countries. Last week’s The Economist Magazine also featured this exciting country, highlighting some of the same topics, particularly the breadth of welfare gains including those for women, featuring in the country’s development.
Talking of the N-11, I went on a short European trip to discuss the Growth Markets, BRICs and the N-11 this week. There continues to be lots of European retail investor appetite for the N-11, something which given the ongoing incremental positive news about many of those countries, can surely only grow. Martijn Hoogendijk, one of our salespeople for the Netherlands, told me about a story in the Dutch press about Foxconn having announced they were investing between $5-10bn in coming years to build production capacity in Indonesia.
I was also honoured to have received an award for being the most supportive British Business Person to Turkey in 2012, which alas I couldn’t attend in person to accept but Miss BRIC, Anna Stupnytska, did the honours instead. I spent quite some of my Moroccan trekking time thinking that Turkey can be some sort of role model for many of the aspiring MENA countries.
World Momentum Improved in Recent weeks (If you ignore Japan and the Euro Zone).
Korean exports positively surprised in October, showing a bigger sequential rise than expected, and unless they are trading with other planets than earth, that must be a sign of a pick up in world trade. Related to what I shall discuss below, certainly the incoming marginal data in China and the US has been better, and given their combined relevance for us all, this is rather good news.
Alas, the same cannot be said for either Japan or the Euro zone. Japan reported its first seasonally-adjusted current account deficit on top of all the other generally grim economic news it has been reporting and yet – linked to the market reactions to US developments – the Yen is trying to strengthen again. At our CIO call this week, where we planned to focus on the US fiscal cliff issue and developments in the US Technology sector, the Japanese mess got quite a bit of airtime. The apparent call of the next Japanese Premier for the Bank of Japan to adopt a 3% Inflation target was mentioned. Given that the last Bank of Japan meeting included a joint statement with Government, this is something to pay more attention to. I am going to be in Tokyo for a couple of days soon, I hope to get some more confidence.
The final October Euro area PMI data was as disappointing as the Flash data, and some of the latest German releases have been especially disappointing. Exports, orders and industrial production all negatively surprised. It is tough to see where there is good news to come from in the foreseeable future in the Euro area although it is also quite encouraging that Greek and Spanish policy developments have not caused too much market angst – at least so far.
After a very pleasant positive Q3 GDP surprise, the most recent UK data has also been more disappointing with the composite October PMI weakening somewhat, adding to those that suggested Q3 was a one-off. Despite this, the Bank of England has at least for now, backed away from additional QE which is quite intriguing. There will be more on the topic no doubt in the future.
I also noticed a report in the FT confirming the strong bias from UK pension fund investors for fixed income securities these days. The article stated that the UK pension funds now hold 43.2% of their assets in gilts compared to 38.5% in equities, the first time in a number of decades that this has been the case. Big picture, this can surely only mean one thing?
The final titbit I found interesting was a reference to a new detailed report from the Australian Government that relates to the ‘New China’. I’d returned from my brief recent trip there suggesting that Australia might not be a winner from the ‘New China’ going forward due to its dependence on commodities. You have to admire the focus and adaptability of Australian researchers, as this paper talks a lot about other things the lucky country can sell to China such as education, and its wines. I can’t see how these could match a commodities fall-off but it’s very impressive how they think.
The US Elections and Cliffs.
More than $6bn spent, and at the end of this week, much of the status quo in Washington DC is no different than last week. President Obama is re-elected, and the Senate and the House have the same control. If you came from Mars you would think it was madness. If you recall from my last Viewpoint, which was inspired by a rather disturbing visit through Dulles International airport, I feared about the consequences of the status quo. Despite plenty of experts telling me to the contrary it seemed likely that Obama would win, and not much would change in congressional terms. And it seemed to me that this was not a good outcome for early or detailed progress on fiscal issues. When I returned from my subsequent vacation, a quick glance at the S&P charts suggested to me a pattern forming not dissimilar to the one formed in the early Summer of 2012, or more worryingly, that of the Summer of 2011, i.e. the spot price and its 21-day moving average had dropped below the 50-day. For whatever reason – fears about policy gridlock – momentum of the market has turned down.
As I remembered at our CIO call, this is most unfortunate as the ongoing US data has been quite encouraging again. Both the October Manufacturing ISM and payrolls report, published before the election positively surprised. While the Hurricane Sandy’s after effects have been expected to play havoc with much data, ongoing weekly jobs claims continue to decline, and most encouragingly, the underlying trend of continuing claims fell to their lowest level since mid-2008. On top of all this, the September trade report showed a lower than expected deficit at $41.5bn. While some of this reflected real petroleum imports, the strength of exports surprised, and most importantly year-to-date, the deficit stands around $415.0bn, almost identical to that of 2011 despite the recovery in economic activity. As I mentioned last month, this improvement in the US external imbalance (deficit between 3 – 3.5% of GDP) is starting to look more and more structural. From my 40,000 feet, the US is making progress on changing itself. Exports, which in the early days of my career were closer to half imports, are now running at 80% of the level of imports. And while the oil volume drop might not be material to some observers, it might be something that is going to change more dramatically as a result of shale production at home.
Against this background, the world and the US’s own people need Washington DC to be sensible. We had a rehearsal of life without a fiscal package in August 2011, and it wasn’t very pleasant. It seems quite clear to me that the US economy is itching to lift itself from the circa 2% performance it has recently been showing and if Washington could deliver a credible deal, then 2013 would start to look rather encouraging.
So, Washington please prove that my Dulles airport experience was not representative of your role in life! Make congressional policymaking functional.
What makes it difficult is, as mentioned earlier, the post-election balance is not far off the same as before, at least superficially. And given the conceptual stance of their more radical Democrat and Republican views, which are both still represented, how can they find a deal? Well below this surface there are perhaps two things that are different. Firstly, a second term President has his legacy to think about and not running for re-election. This suggests that President Obama could play differently than in his first term. Secondly, while it seems to have escaped the minds of some Republican Party figures, the electorate hardly endorsed their more aggressive views on matters, and one might think that some of their grandees and others with an eye to the future might take the results as a signal that they need to change. There was a hint in a new stance on Thursday from House Speaker, John Boehner, when he said ‘under the right conditions’, Republicans would accept higher revenues as part of a broad deficit reduction that also included cuts to government spending. Let’s hope those ‘right conditions’ don’t include too much unfriendly enforced help from weak financial markets.
A fiscal deal that ensures immediate fiscal tightening is significantly less than the otherwise CBO estimated 4% of GDP tightening, but maintains or enhances long-term fiscal credibility shouldn’t be too difficult. Perhaps to prepare their minds, all US Congress people should be forced to stand in an additional line just for them on re-entering the US via Dulles airport?
China and its Changes.
Meanwhile, one might wonder how much it actually costs to go through the leadership changes in Beijing. Obviously there is no need for lots of TV adverts and the like, but preparing the city for the week long extravaganza of the handover must set the Party back. By this time next week, we will have observed the positioning of the seven (or nine but almost definitely seven) individuals who will walk off the stage to signify who is in charge for the next decade. From all the leaks I’ve seen, the names hinted to me already appear to be confirmed. While the list will allow anyone to make whatever interpretation they would like; I think it has a reformist bent.
The most important point I would like to reiterate is that the leadership isn’t in a position to dramatically impose its own will. They became leaders by buying into the carefully orchestrated decisions, which as far as economic developments are concerned, are already shown in the 12th five-year plan. It is against this background that President Hu’s outgoing speech that China plans to double GDP per capita by 2020 should be considered. This is not really new although it was good to see. The key aspects of the economy will be largely based around better quality growth rather than focus on quantity: 7-8% GDP growth rather than 10% plus, focus on less income inequality, more consumption, and relatively less production, more focus on attractive energies and energy efficiency, continued focus on giving better individual rights as the country urbanises further, and fresh focus on ‘innovation’ and creativity! Those latter two aspects should be generally interesting.
Chinese Data Very Encouraging.
To ‘celebrate’ the handover on Friday, some of the October data was released and it all continued September’s rather encouraging pattern. Consumer prices rose by a less than expected 1.7%, way below target. PPI continues to actually fall, dropping 2.8% year-on-year (possibly another aspect why equity prices have been struggling?). Industrial production rose by 9.6%, up further from weaker levels in the summer, and fixed asset investment (FAI) rose by 22.2%. More importantly and hugely encouragingly, retail sales rose by a stronger than expected 14.5%, which given the soft CPI translates into a much stronger 13.7% year-on-year real retail sales growth. As I say every month, watch this number relative to industrial production, and if the trend is improving, as the attached shows, it is an extremely good sign that the Chinese economy is rebalancing. As can be seen, it looks quite impressive. The incoming new leadership team looks like they have been given a nice starting position to me.
So all in all, the ongoing economics in both China and the US which together represent one-third of the world economy, look notably better. Let’s just hope their policymakers don’t mess things up too much.
As far as the markets are concerned, a number of chart patterns suggest that ‘risk off’ is in charge, led by the S&P mini breakdown I have already mentioned. Let’s let the bears have some fun for a short time, I’m pretty sure it won’t be for long, and without a sense of drama, Congress is not likely to come up with a credible deal.
Meanwhile Sir Alex Ferguson was voted October’s Manager of the Month, let’s hope it doesn’t result in the typical immediate aftermath.