On Gearing for Growth, Why Buy China and The China Study – Part VIII!

From: aditya rana
Date: Sat, Dec 8, 2012 at 2:46 PM
Subject: On Gearing for Growth, Why Buy China and The China Study – Part VIII!


While worries about the global economy and financial markets abound – the fiscal cliff, a euro zone recession, slowing emerging world economies to name a few – it is noteworthy to observe that the U.S. economy is now growing at an annual rate of 2.6% which is the second best growth rate of the entire recovery. In addition, there are six solid reasons, as outlined by James Paulsen (chief strategist at Wells Capital Management) that the U.S. economy could grow by 3% in 2013, which is a full 1% higher than the current consensus estimate and could have a significant positive impact on world financial markets in 2013.. To summarise:

1. U.S. Recovery Has Geared:

-Like in the past two recoveries, the current recovery is finally approaching a “gearing” level in its fourth year. The notable highlights being:

-Monthly household job gains are now averaging 275K rather than only 11K seen earlier in the recovery.

-The unemployment rate falling by 1.2% in the last 14 months which is the largest decline of the recovery.

-The labour force growing by 132K per month versus virtually zero earlier in the recovery.

-Consumer confidence is now at a four year high.

-Household net worth is almost fully restored after suffering a 25% collapse during the recession.

-The household debt service burden as a percentage of income is now close to a record low at below 16%, from a high of 19%.

-Bank loans have been rising over the last year, after declining during the recession.

-Home prices and housing activity are both rising steadily this year.

-The S&P 500 index recovered to a 4-year high a few months ago and came within 100 points of an all-time high.

-State tax collections have risen to an all-time record high.

-Investors concerns about an “Armageddon” event have fallen dramatically as evidenced by the VIX index being low and stable this year.

While the pace of recovery continues to be relatively slow, it has broadened considerably and become more sustainable in the last year which should boost confidence and lift the pace of growth in 2013.

2. Economy is Still Being Juiced:

Despite the fiscal drag, a variety of factors continue being conducive to growth: robust growth in M2 money supply, mortgage yields at record lows (keeping refinancing activities, housing activity and house prices rising), declining gasoline prices, the U.S. dollar falling by 10% since the recovery high and CPI inflation declining from about 4% a year ago to 2.2% currently.

3. Revival of Emerging World Economic Growth:

-Reviving economic growth in the emerging world would produce a big boost to world and U.S. growth.

-The economic slowdown in emerging markets was largely self-inflicted through restrictive policies, aimed at cooling down an overheated recovery, implemented from 2010 until early 2012. EM countries are now engaged in increasingly aggressive stimulative policies which should boost growth in 2013.

-The relationship between two key policy instruments in China – interest rates and money supply growth- and economic activity can be clearly seen with appropriate lag effects ( one year for interest rates and 6 month for money supply) and explain the strong growth following the 2008 recession and the subsequent slowdown.

-China has followed a “boom (post 2008 recession) –bust(post 2010) ” approach evidenced by a sharp drop in money supply from 30% to 7% and a rise in interest rates from 1% to 6.5% during this period. The significant rise in M2 money supply and fall in interest rates since early 2012

bodes well for a robust economic recovery in 2013.

-EM economic growth is closely tied to manufacturing growth in the U.S. and the developed world and a recovering EM world should boost growth in the developed world through a rise in manufacturing activity.

4. Euro zone to finally Improve?

-While the euro zone economic problems are chronic and likely to persist for many years, the misguided austerity programmes in place since the crisis erupted in 2010 have been replaced by “growth promoting” economic stimulus by the ECB as evidenced by the three time reduction in policy rates and the aggressive expansion of its balance sheet, creating a liquidity ring around troubled sovereigns and banks.

-Perception of the euro zone issue is being successfully transformed from a crisis to a simple chronic issue, and should lead to better economic performance in 2013.

5. The “Cliff” overstates likely fiscal contraction:

-The consensus forecast of 2% U.S. economic growth for 2013 s closely tied to an expectation of fiscal tightening which is probably overstated.

-Despite the fiscal tightening every year since the recovery began, as evidenced by a 1% annual contraction of the deficit as a percent of GDP, the recovery has persisted and broadened. While an unresolved fiscal cliff will be a negative force for the economy, it has to be weighed by the other positive factors described above at work.

-The odds of a complete gridlock are low, and the likelihood is higher of austerity programmes implemented gradually over many years and not dramatically higher than what the economy has already faced.

6. A Calm after the Sandy Storm:

-While super-storm Sandy will depress economic growth in the 4th quarter, it will act as a mild fiscal stimulus next year, which because of the multiplier effect, could last longer than what many people currently expect.

-“Investors may want to ponder how much stock market valuations and bond yields could rise next year if economic growth proves to be 50% stronger than what most people expect”

It is helpful to periodically take a top-down look at economic events and trends in order to ascertain important shifts which are usually missed by focussing only on individual pieces of data. The world is on the cusp of a cyclical economic growth cycle which could last 12 to 18 months and global stock markets (with the exception of China) have already begun to anticipate it as the chart below illustrates clearly:

As I have mentioned in previous newsletters, China appears to be a classic contrarian investment play given the widespread bearish views on the prospects of a China hard landing, and it being the only major stock market which has been down for the year. However, on the basis of improving gradually economic fundamentals, declining political uncertainty, vastly oversold stock market technical conditions and record low valuations (see chart below) and investor underweighting it presents a unique contrarian investment play for patient investors (i.e. investment principles 3 & 4 as outlined in my newsletter last week!). While the market may not get upside momentum until the second-half of 2013 , and is likely to test the resolve of all but the most committed investors before it does rally, it does present an exceptionally attractive entry level and has attracted the attention of well-known contrarian investors like Jeffrey Gundlach who runs the immensely successful $35 BN DoubleLine bond funds and the famed technician Tom DeMark.

Additionally, a measure which starkly illustrates the relative underperformance of the Chinese stock market is its comparison with nominal GDP growth – during the 1990s GDP compounded at 18% per annum while the stock market compounded at 32%, during the 2000s GDP compounded at 15% while the stock market delivered only 3% per annum, and so far this decade GDP will have averaged about 12.5% per annum and the stock market is down 15% per annum. While GDP is likely to slow down to a 10% per annum nominal growth for the rest of this decade, the stock market is overdue for a catch-up period (as a previous newsletter had illustrated with respect to the U.S.– GDP and stock market growth do not always coincide, but the stock market does eventually catch-up with GDP growth during a “pay-back” period).

There are various ways to invest in China – through NYSE listed ETFs (FXI, GXC, YAO, HAO-all offshore listed shares), HK listed ETFs (2823, 2822, 3049 – providing a play on the domestic market) and funds (Templeton China , China Fund, Morgan Stanley China Fund-CAF). Please note that HK listed China shares are already up 18% YTD, while the domestic A shares are down 10% and therefore present a relatively more attractive opportunity.

I came across an interesting quote which pertains to not just to the U.S. stock market but China as well (via James Saut):

As my friend Frederick E. “Shad” Rowe, captain of the sagacious Dallas-based money management firm of Greenbrier Partners, writes: “The stock market will always do what it must to frustrate as many investors as possible. But as to its long term direction, I have little doubt. It is up. And as to the magnitude of that move, I would say ‘very large.’ As to timing, I am a little less clear. I do believe that patience will be rewarded and that the current opportunity is so compelling that the real fool’s game remains, as it has throughout my career, attempting to time the stock market.”

The China Study – Part VIII (Professor Colin Campbell, Cornell University):

Last week I provided the third part of the conclusions to the landmark China Study jointly conducted by Cornell , Oxford, and the Chinese Academy of Medical Sciences, and this week I summarise the final part:

On weight loss:

-With regard to weight loss there were some surprising results from the China Study which shed light on the weight loss debate. While the average caloric intake per kg of body weight was 30% higher amongst the least active Chinese than the average American, their body weight was 20% lower.

-While some of it might be due to the higher relative activity of even the least active Chinese, based on their own research and the findings of others, it seems that a high-fat, high-protein diet simple retains more calories than required which are then stored as body fat.

-Only a small amount of calories are needed by our body to cause a significant change in body weight – an extra 50 calories a day (one low-fat biscuit!) can lead to an extra 10 pounds per year, which over 5 years accumulates to 50 pounds!

-Despite any short-term caloric restriction regimes we may follow, our body, through multiple mechanisms, will ultimately choose how many calories to take in and how to use them, making our attempts to restrict caloric intake short-lived and imprecise.

-The body uses multiple mechanisms to decide how calories get used – to be stored or ”burned off”. Diets high in protein and fat transfers calories away from their conversion into body heat to their storage form as body fat – and diets low in protein and fat causes calories to be “burned” as body heat.

-The same phenomenon was observed in animals fed low-protein diets – they consumed slightly more calories, gained less weight, dispose of the extra calories as body heat and voluntarily exercised more, while still having far less cancer than animals on standard diets. Calories were burned at a faster rate into body heat as more oxygen was consumed .

-The concept that diets can cause small shifts in calorie metabolism which can cause large shifts in body weight was extremely useful in providing insights into the issues with many weight loss programmes.

Diet and Body Size:

-While animal protein consumption was associated with taller and heavier people, they also had the most heart disease, cancer and diabetes

-However, consuming more plan protein was also associated with greater body weight and body height, without an increase in the incidence of chronic diseases.

-The main reason for the smaller sizes of people who consume plant based diets is because they have insufficient variety, inadequate quality, and quantity and poor public health conditions. Under these conditions growth is stunted and people do not reach their genetic potential for adult body size.

– In China, low adult height and weight are associated with areas having high mortality rate for tuberculosis, parasitic diseases, pneumonia and digestive diseases.

In summary:

-Almost all people in the developed world will die of diseases of affluence, and the China Study showed that nutrition has a strong effect on these diseases – plant-based foods were associated with lower blood cholesterol, and lower incidence of diseases of affluence like cancer, heart disease and diabetes while animal-based food significantly increased the risk.

-Perhaps the most important point from the China Study was that “Everything in food works together to create health or disease . The more we think that a single chemical characterises a whole food, the more we stray into idiocy”.

-While the China Study, standing alone, does not prove that diet causes disease – absolute proof in science is nearly unattainable – it does provide enough information to inform some practical decision-making.

To be continued with more finding on the diseases of affluence.

Here is looking forward to even better markets in 2013 and healthier eating!



EMP Update 11.27.12.pdf


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