Part of our objective is to highlight investment opportunities in Asia – and, where it makes sense, to recommend a great Chinese stock to buy.
And especially right now, I believe it’s time to sell your U.S. stocks. That’s because U.S. stock markets have been euphoric since Donald Trump’s election victory. The S&P 500 is up nearly 12 percent since early November. Much of this “Trump rally” was founded on the two cornerstones of Trump’s domestic policy: Tax reform and infrastructure investment.
There is broad public and corporate support for both. The U.S. tax system, as Donald himself would put it, is a disaster. And U.S. infrastructure isn’t much better.
The rally has been based on the hope that more infrastructure spending, and more money in the pockets of people and businesses (through tax cuts) would drive growth, lift inflation, and push up stock prices.
A rally fraying at the edges
But I think the cracks in this trade are starting to show. A stock market can rally on promises, but it takes concrete results to keep the rally going. Right now we are not seeing political results come out of the Washington political circus. The Trump stock market honeymoon is ending. President Trump is finding out that getting anything through Congress, even one controlled by his own party, is exceptionally difficult.
What’s more, the U.S. economy isn’t looking as strong as you might think. Surveys of consumer and business sentiment – that is, how people “feel about” their economic situation – are upbeat. That’s important, and it matters for future growth. But what’s more important is underlying economic trends. And those aren’t so sunny.
For example, retail sales – how much stuff Americans buy – have fallen over the past two months. This is the first time in more than two years that this has happened. Monthly auto sales have dropped nearly 10 percent since December. Economists are cutting their growth forecasts for 2017.
The US Purchasing Managers Index for manufacturing, which measures the activity level of purchasing managers in the manufacturing sector, has been falling this year. Other surveys suggest that the pace of hiring has slowed and manufacturing cost inputs have increased sharply.
This is also reflected in Fed Funds Futures prices (which are contracts based on the future Fed Funds rate) that suggest that the probability of three interest rate hikes this year has fallen from around 60 percent a couple of months ago, to around 33 percent by end of last week. The Federal Reserve only raises interest rates if the economy is strong – so if investors see a lower chance of rates rising, it means that they expect a weaker economy.
On another front, investors are selling U.S. shares. In recent weeks U.S. stocks have seen net outflows (which means more money flowing out of U.S. stocks than in). That’s the first time since just before the U.S. election, in October, that this has happened.
So here we have an economy that’s more sluggish than anticipated, combined with an expensive market, and a President who can’t seem to get much done.
Look for Chinese stock to buy instead
The real economic excitement is across the Pacific, in China.
China’s economy is strong – and far stronger than a lot of people think. Chinese stocks are positioned to do a lot better than U.S. stocks.
The economy is growing nicely. China’s Manufacturing PMI (purchasing managers index) has been steadily rising for more than a year now. Annual industrial production has accelerated so far this year, from year-on-year growth of 6 percent to 7.6 percent recently.
Manufacturing and industrial production growth are both indicators of strong economic growth.
Power production is one of the more reliable economic indicators in China (it’s hard to massage the data). Even the Premier Li Keqiang, the head of the Chinese government and the number two behind President Xi Jinping, has said that he looks at electricity production and transport data as his key indicators of the economy. Power production fell in China for almost two years leading up to August of 2016. But now it’s growing at a healthy 6 to 7 percent annually.
Another reliable data set preferred by Premier Li is railway freight volumes. Railway freight, which reflects the gross weight of cargo transported, grew 19 percent in February over the previous year. That’s a big change from the last quarter of 2015, when it fell 15 percent. A similar indicator, container throughput, grew 8 percent in March for China’s ports. It was flat a year ago.
It follows that trade volumes are also up. Year-on-year exports were up 16 percent, comfortably beating estimates of just 3.2 percent.
China’s economy is strong, and the equity market is beginning to reflect that. Economic growth provides a foundation for economic activity, hiring, spending and investment.
Touching quickly on the currency, the Chinese renminbi has also stabilised over the past few months, and even appreciated a little against the U.S. dollar.
This is because late last year Beijing began cracking down on outward investment and remittances by Chinese companies, to preserve its foreign exchange reserves. Since then, reserves are back up to above US$3 trillion, from just below that number in January.
For the time being, any concerns about a flood of money pouring out of China and weakening the renminbi have been put to rest.
As a result, we’ve seen H-Shares, list of Chinese stocks trading on the Hong Kong Stock Exchange, return 9.3 percent this year versus 6.7 percent for the S&P 500 index.
We are bullish on H-Shares. Some of our H-share recommendations in The Churchouse Letter have returned up to 35 percent in 2017.
You can also buy a simple H-Share ETF, like the Hang Seng H-Share Index ETF (HKSE; ticker: 2828). This tracks the Hang Seng China Enterprise Index, the benchmark H-share index.
P.S. The latest edition of The Churchouse Letter will be published later today. This month’s recommendation is a small-cap, under-the-radar company whose roots trace back hundreds of years to one of Asia’s wealthiest families. I’ll hazard a guess that 95 percent of our subscribers have never even heard of it. We believe the stock could double within 12 months. Click here for your subscription and find out.