Monday, December 27, 2010

Outlook 2011 & the Next Decade: Is The Smart Money Right About China?

In January 2010 we had a post, "Jim Chanos' "China is Dubai Times 1000" May be a Losing Bet":
I have a lot of respect for Chanos. His work on Enron was exactly right and very brave, especially when you consider the political, media and investment giants who backed the company. Hell, folks as diverse as Paul Krugman, NASA's Jim Hansen, Lawrence Lindsey and Bill Kristol took the Crooked E's payola. Fortune magazine called ENE "The most innovative company in America" for six years running. Chanos stood up and said the emporer has no clothes, and put his money where his mouth was.

On the other hand going up against the Chinese government could make you broke before you're proven right....
It is the same situation that Gluskin Sheff's David Rosenberg ran into with the U.S. economy, he may or may not have been right about our economic quagmire but he seriously underestimated the effects of the government's reaction in delaying the worst-case realization:
I usually don't have much time for Gluskin Sheff's David Rosenberg. His pig-headed refusal to listen to the market as the averages advanced more than 70% was not only arrogant but expensive for his firm's clients.

I can handle arrogant as long as you're right, hell I can tolerate a fat guy in a grass skirt and spike heel Manolo Blahniks if he's right.
It would be fun to watch him tottering around.
But Mr. Rosenberg hasn't been right for a while and he's not funny.

Funny is important if you're doing the Angel of Death schtick. Here's our thinking ...

The thing is, you have to be correct about both the doom and the timing. If you are predicting the end of the world it is usually best to make the occurance far enough into the future that your audience is either dead or demented on the appointed date.

If you insist on a call that even your clients with alzheimers can remember you have to do serious analysis and consider the millions of moving parts that go into a dynamic system.
In the case of China the government can delay the day of reckoning long enough to really hurt the time adjusted returns of the shorts.

If you have a situation that will fall 30% and it happens in a year you've put up some professional level numbers.
If it takes two years, your annualized gain is down to 14.5% and your 2 and 20 are at risk.

You may want to read the Dec. 25 ZeroHedge post "China's Christmas Present To The World: Another Interest Rate Hike" for an indication of how serious the Chinese government is.

From EconForecast:
China has been ranked as the top growing country among the G20 since 2001 and is expected to retain that title for at least another five years (See Growth Chart). However, the news coming out of China for the past three months has not been good. It is looking more and more that it is not a question of if China is a bubble and going to burst, but when.

The country has major infrastructure issues, troubling population dynamics, poorly aligned employment outcomes, inflation problems, a real estate bubble, an opaque and potentially insolvent banking system (had mark-to-market accounting been applied), geo-political problems with North Korea and Taiwan, and an underperforming stock market in 2010 (see stock comparison chart).

Smart Money Rushing Out

While the hot money is flooding into China, the smart local money is doing everything they can to get their money outside of China, which partly explains why Shanghai SE Composite has underperformed other markets for the past year or so (see Comparison Chart).

The many issues of China could conspire to become the biggest train wreck waiting to happen, and potentially dwarf any little budget problems in Europe by a factor of ten.

Big Trouble In Big China

China has a population related societal structural problem. The nation has tried to utilize the vast manpower to its advantage over the last two decades building a powerhouse manufacturing economy through the availability of low cost workers, which supplied the world with lower cost goods....MORE
The question is: Where do you rush to? Venus?
As Zhi Peng Sinatra said:

...My little town blues
Are melting away
I'm gonna make a brand new start of it
In old Shanghai.
If I can make it there,
I'd make it anywhere
It's up to you,
Shanghai, Shanghai.

Shanghai, Shanghai!