20 Mar February Market Commentary
Monthly Economic & Investment Market Commentary
The formal transition of the Chinese leadership will be completed in the early days of March at the 12th National People’s Congress, and while the process is ceremonial, the statements of both outgoing and incoming leaders are of particular interest. Outgoing Premier Wen forecast that growth in Chinese GDP for 2013 would come in at 7.5%, which would continue the recent trend of more moderate growth rates. It has long been acknowledged that the Chinese have a tradition of under-promising and over-delivering on growth, and many analysts are expecting closer to 8% in 2013. What has also become clearer though is a broader acceptance that achieving such growth rates will become more challenging, and that the days of double digit growth for China are behind them.
As we have stated before, that is absolutely to be expected for an economy that has grown to become the second largest in the world. The International Monetary Fund’s World Economic Outlook reported on 2012 GDP late last year and estimated China’s GDP at US$8.25 trillion. For comparative purposes this is very close to the combined GDP of the United Kingdom, Germany and France, which totaled US$8.38 trillion. Considering these figures on a per capita basis helps to illuminate the potential growth still ahead of China – there are 1.35 billion Chinese people compared with the three European countries that together have 211 million residents, or 15% of China’s population – for the same economic output.
Now, having such potential is certainly preferred to the likely environment in many Developed Markets of a moribund economic outlook, though the Chinese will have to continue to manage the transition of their economy very carefully. The rebalancing that they seek is to boost domestic incomes and therefore consumption and to reduce the reliance on exporting manufactured goods to the rest of the world and in time also the reliance on infrastructure investment. We highlighted late last year that the significant aspect of President Hu Jintao’s speech was that an explicit goal of increasing incomes at 7% per annum had been set, effectively doubling incomes over the next ten years and helping to diminish inequality.
Urbanisation of the rural population has of course been central to China’s economic rise, though the tipping point between urban and rural populations has only been crossed in quite recent times. Official estimates at the end of 2012 are that approximately 53% of the Chinese population are urban residents, compared with rates more like 80% in many developed nations. Early statements from incoming Premier Li Keqiang indicate that he will accelerate this process, with estimates that up to 400 million people will move to urban environments in the next decade.
“Urbanization could cure China’s economic imbalances, a study by consultants at McKinsey showed last November, putting it on a path to domestic consumption-led growth within five years to replace three decades of investment and export-driven development that stoked global trade tensions. The government hopes 60 percent of its population of almost 1.4 billion will be urban residents by 2020, from about half now, and will build homes, roads, hospitals and schools for them.”1
The last aspect is critical, not least for the outlook for Australia, and Premier Li has acknowledged that “urbanization is not about simply increasing the number of urban residents or expanding the area of cities. More importantly, it’s about a complete change from rural to urban style in terms of industry structure, employment, living environment and social security.”2
Whilst this transition has some way to go, the Chinese economy will be more susceptible than their Government would like to external shocks, such as the Europeans mismanaging their reforms or the Americans finally doing something more drastic than we have become accustomed to. In a recent update3 the National Development and Reform Commission in China highlighted that ‘external demand will not change for the better in the near future’ and that at present ‘consumption is unable to provide a very strong impetus to economic growth’.
So there is clearly some work to be done and some challenges to be mitigated for the Chinese, and undoubtedly their economy will continue to draw criticism from those who have been predicting its demise for many years now. The US edition of 60 Minutes recently aired a report that repeated the recurring theme of ghost cities being built in China and standing idle. We have covered this in the past and highlighted previous examples of ghost cities that are now occupied. What is apparent is we are unaccustomed to having political leaders that are able to plan and implement projects ahead of the short term election cycle. By contrast President Xi Jinping and Premier Li Keqiang will be guiding the Chinese economy for the next ten years.
SOUTH KOREA AND TAIWAN
In economic terms, the South Koreans have an important relationship with their largest trading partner China, and the outlook for the Taiwanese is even more inextricably linked. Latest GDP data for Taiwan came in at an annual growth rate of 3.7% to the end of 2012, while for the South Koreans it was a more modest 1.5%, with consumption steady but softer investment and trade. The economists at ANZ4 are forecasting that this growth will pick up to 3.7% in 2013 with trade improving gradually and inflation remaining benign.
As we conclude, we will quickly cover some of the most recent data on the Australian economy, including the February 2013 labour statistics which confirmed that the unemployment rate remained steady at 5.4%. The monthly increase of 71,500 jobs was the largest figure since July 2000. Whilst the Reserve Bank kept interest rates on hold at their February meeting, this remains an accommodative monetary policy with the Cash Rate at 3%. Our newly revised expectation for the RBA‟s neutral policy stance is more like 4% or even slightly higher, given persistently very low interest rates in other major economies around the world.
The bank has said they are content to assess the ongoing impact of earlier rate cuts, and the extent to which they are supporting interest rate sensitive sectors of the economy, notably housing and consumer spending. Latest data on housing indicates that a reasonable recovery remains underway, as trend growth in housing finance is moderately positive, which has flowed through to consumer confidence and expected growth in household consumption.
The dramas that have become so commonplace in both the United States and Europe dominate the headlines, but divert attention from what are sound economies with good long term growth prospects in Emerging Markets economies, and also here at home in Australia.
ASSET CLASS VALUATIONS
The table below shows our long term (10 year) expected returns from four asset classes; Australian shares (represented by All Ordinaries index), international shares (S&P 500), Emerging Markets (represented by the FTSE Emerging Markets Index) and listed property (ASX 200 Property). The four valuation ranges, represented by the different colours, are determined by comparing the return we forecast, to a risk free rate of return (Term Deposit rate).
1. N Edwards & B Kang Lim, China plans bond overhaul to fund $6 trillion urbanization – sources. Reuters. 28-Feb-13. 2. S Lanman & R Chandran, Li Keqiang Urges More Urbanization to Support China‟s Growth. Bloomberg. 21-Nov-12. 3. J Anderlini & S Rabinovitch, Wen Issues China Growth Warning. Financial Times. 5-Mar-13. 4. P Gruenwald, South Korean Q4 GDP Growth Unchanged at 1.5%. ANZ Research. 24-Jan-13.
DISCLAIMER: The information in this commentary has been provided for publication by Implemented Portfolios (ABN 36 141 881 147. AFSL Number 345143). The information has not been verified by Implemented Portfolios or Adapt Wealth Management Pty Ltd (ABN 76 821 231 362 Corporate Authorised Representative of CHPW Financial Pty Ltd AFSL 280201) but is believed to have come from reliable sources as noted in the acknowledgements. No Liability is accepted by Implemented Portfolios, or Adapt Wealth Management Pty Ltd, its Directors, officers, employees or contractors for any inaccurate or incorrect information. The information is a broad commentary and there is no intention that a client should act on the information without seeking professional assistance from their own advisers (legal, tax, accounting, financial planning) for suitability in respect of their unique circumstances.
About Reuben Zelwer
Reuben Zelwer established Adapt Wealth Management in 2011 to help time poor clients achieve financial freedom. For over 15 years, Reuben has helped professionals, executives, business owner and those approaching retirement make the most of their circumstances by making good financial decisions. Reuben’s professional practice is complemented by substantial voluntary work, which has included setting up financial literacy and savings programs in the local community.