(Bloomberg Opinion) -- Whatever you think about the veracity of China’s economic data, Wall Street is certainly drinking the Kool-Aid. After saying Wednesday that gross domestic product expanded 6.4 percent in the first quarter from a year earlier, which was better than the 6.3 percent forecast by economists, both UBS and Morgan Stanley raised their growth forecasts for this year. The latter said it expected a growth upturn through 2019 “as fiscal easing fully kicks in, trade tensions ease, and consumer confidence normalizes.” Earlier this week, Goldman Sachs recommended some trades for those banking on a China rebound.
It’s hard to overstate the importance of China, home to the world’s second-largest economy, to global markets. For much of the past year or so, the potential for a slowdown has consistently been at or near the top of the “tail risks” cited by investors in Bank of America’s widely follow monthly global survey. As such, any evidence that China’s economy is stabilizing could force investors with bearish bets to unwind those positions. Consider the yuan, which is trading at about its strongest level since July. Yes, China has a lot of issues, namely too much debt and a real estate market most think is a bubble waiting to burst. But many investors realize that it’s hard to bet against the economy of a nation whose government is willing to do and spend whatever it takes at the first sign of weakness. “I think policy makers, who were choosing ‘deleveraging’ over the past two years, are now back to increasing leverage,” said Alex Wolf, head of investment strategy at J.P. Morgan Private Bank in Asia, according to Bloomberg News.
There’s something else to consider when it comes to China, its economy and global markets. There’s still the chance that its newfound strength could embolden China in its trade talks with the U.S. That’s something that could surprise markets negatively if it comes to pass. “President Trump and other U.S. officials spent much of the last year saying that China’s slowdown was making Beijing desperate for a deal,” Michael Hirson, practice head, China and Northeast Asia at Eurasia Group and a former U.S. Treasury Department official, told Bloomberg News. “Now that China’s growth is recovering, Trump and team will be getting more questions from pundits and the media about whether his leverage is slipping away.”
RECESSION TALK IS SO 2018
With more investors believing China’s economy isn’t falling over a cliff, it’s probably no coincidence that talk of an imminent global recession has eased. The latest Bank of America monthly survey released Wednesday showed that only 6 percent of fund managers surveyed (totaling $664 billion of assets under management) expect a global economic recession this year, and 70 percent do not anticipate a recession until the second half of 2020 or beyond. In addition, 86 percent said the recent inversion of the U.S. Treasury yield curve does not signal an impending recession. Nevertheless, only 13 percent of fund managers surveyed expect higher global short-term rates, the lowest level since 2012. That’s the very definition of a Goldilocks scenario for markets, and it goes a long way to explaining the big rebound in equities this year. And there could be more to come, if past is prologue. The Bank of America survey showed that allocations to global equities jumped 14 percentage points last month to a net 17 percent “overweight,” the largest increase since December 2016. The next year turned out to be spectacular for equities, with the MSCI All-Country World Index surging 21.6 percent and avoiding any losing months.
BRAZIL GETS LEFT OUT
Whatever good vibes are in the global economy have bypassed Brazil. The real fell as much as 1.09 percent on Wednesday to 3.9467 per dollar, pushing it closer to the critical 4 per dollar level that flags a possible crisis in the economy and may cause global investors to flee. Brazil analysts have cut their 2019 growth forecast to 1.95 percent from 1.97 percent and reduced their 2020 estimate to 2.58 percent from 2.70 percent, according to the central bank’s latest survey of economists. A separate release on Monday showed economic activity fell by 0.73 percent in February, more than twice the median estimate of analysts in a Bloomberg survey. The weakness in the real on Wednesday came as President Jair Bolsonaro suffered another setback after a legislative committee tried and failed to vote on his proposed pension reform that’s heavily backed by investors, according to Bloomberg News’s Simone Iglesias. The lower house’s Constitution and Justice Committee decided to delay until Tuesday a vote on whether the bill abides by the country’s laws and can proceed in Congress. The move comes after centrist parties sought changes to several parts of the bill, such as the implementation of individual savings accounts, even after hours of debate.
MORTGAGE BOND INVESTORS ON EDGE
The market for mortgage bonds isn’t for the faint of heart. In addition to details such as inflation and economic fundamentals, investors in the market obviously need to keep a close eye on housing trends and mortgage rates. But mortgage bonds don’t always operate intuitively. For example, lower mortgage rates don’t always benefit mortgage bonds. That’s because lower rates tend to spark a flurry of refinancing, causing the higher rate mortgages backing the bonds to get paid off sooner than anticipated. That’s bad for mortgage bond investors. Something else that tends to be bad is a healthy housing market. A surge in sales tends to lead to a surge in the creation of mortgage bonds. All else equal, more supply damps the prices of existing mortgage bonds. That’s what’s happening now. The Mortgage Bankers Association said Wednesday that its purchase applications index reached its highest level since April 30, 2010. Evidence of higher home sales and relatively low mortgage rates “should lead to more robust net supply figures in the quarters ahead,” Bank of America Corp.’s strategists wrote in a research report. Overall mortgage credit availability is on the rise, helping would-be buyers take on more debt to handle the rising cost of housing, according to Bloomberg News’s Christopher Maloney. Bond traders have pushed yields on 30-year Fannie Mae current coupon mortgage bonds to 74 basis points above 10-year notes, up from 60 basis points last month, data compiled by Bloomberg show.
COFFEE’S IN A DEATH SPIRAL
The market for coffee just can’t seem to find a bottom. Futures dropped as much as 4.59 percent on Wednesday, their biggest decline since November, bringing the loss for this year to 15 percent. That may not seem like a crisis, until you consider that prices have fallen in each of the past two years and are now at their lowest since 2005. The market is suffering a sort of double-whammy, with supplies elevated at around their highest since 2015 and Brazil’s real holding at about its weakest levels ever. Brazil is a top coffee producer, so a weaker currency inherently cuts the price of beans. For coffee lovers, the development is both good and bad. Data from researcher IRI show retail prices dropped 1.2 percent in the 13 weeks ended March 31 from a year earlier. On the other hand, the price decline may force growers who produce specialty blends to abandon the industry. Prices for arabica coffee — the smoother variety favored by companies like Starbucks Corp. — are languishing near a 13-year low. Many specialty producers plant fields with beans deliverable against arabica-futures contracts, so the declines can cut into profits, according to Bloomberg News’s Shruti Date Singh. The broad downturn for the market at a time of oversupply also erodes and sometimes even erases premiums for higher-grade coffee.
TEA LEAVES
Seeing isn’t believing. When the U.S. government releases the monthly retail sales report for March on Thursday, it is likely to suggest consumers are in a spending mood. The median estimate of economists surveyed by Bloomberg News is for sales to have surged 1 percent, compared with February’s 0.2 percent decline and the more than three times the monthly average of 0.3 percent over the past five years. Nevertheless, the report is likely to appeal to the pessimists. That’s because the results will most likely be goosed by the rebound in gasoline prices. Also, the late timing of the Easter holiday this year could benefit April sales at the expense of March, according to Bloomberg Economics. “Consumer spending will continue to be supported by tightening labor-market conditions and accelerating income gains,” Bloomberg Economics noted in a research note ahead of the report. “Yet, the near-term pace could be limited by smaller-than-expected tax refunds.”
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To contact the editor responsible for this story: Daniel Niemi at dniemi1@bloomberg.net
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Robert Burgess is an editor for Bloomberg Opinion. He is the former global executive editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.
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