Investors still need to wait for more domestic fiscal stimulus

Summary:

• A weakening US dollar reduced RMB depreciation pressure this year, and the probability of more domestic easing monetary policy is rising. However, easing monetary policy alone may not be enough to reverse the economic trend, so investors also need to see more easing of the domestic fiscal policy.

• In August, the issuance of LG bonds and treasury bonds have accelerated significantly, but subject to requirements, the landing of LG projects and the efficiency of fund usage remain to be observed. Moreover, it is still necessary for the central government to increase fiscal spending, especially to introduce stronger stimulus policies for domestic demand. The recently launched 150 billion consumer subsidy policy is a positive signal, but the overall scale is still not impactful in our view.

• We believe that the Fed's rate cut will not change the overall slowdown trend of the US economy. The Fed's small rate cut will have little effect on stimulating households to leverage again by increasing consumption. Most of US residential mortgage are on fixed rates,  refinanced and locked at the bottom lever around 3% during 2020-2021. Fed’s rate cut will not make the current mortgage rate to fall rapidly to the level that can stimulate an increase of mortgage applications.

• We have previously put forward a bearish view on the trend of overall commodity prices (except gold). Although the Fed’s rate cut expectation is rising and a weaker US dollar pushed commodities to rebound slightly, we believe that commodity prices are still likely to weaken further in the future.

• As for overseas stock markets, we continue to hold our view of the previous monthly report that investors are suggested to remain relatively cautious about overseas stock markets before the US election.

• A-shares continue to fall, and market sentiment is still in a depressed status. We believe that a small relaxation of monetary policy or consumption subsidy policy is not enough to fully hedge the tightening effect from slowdown income and continued deflationary household assets. Therefore, investors should continue to operate cautiously until the government introduces more effective policies to support domestic consumption. We believe that September and October may be an important period to observe whether domestic policies will introduce further stimulus policies that exceed expectations.

Previous Views:

The short-term liquidity risk caused by the liquidation of yen carry trade in early August is over. However, we still need to be cautious about the performance of global stock markets before the US election. With inflation easing, there is a conclusion that the Fed will start cutting rates in September. The Politburo meeting in China vowed to support growth and promote consumption, the stock market may have an oversold rebound in the short term, but the overall range may be limited. Commodity prices may also rebound after a sharp fall, but the overall commodity price rebound space is also limited, and there is a possibility of further decline after rebound.

Views in September:

I.                     A-Share stock market still needs to wait for further fiscal easing to stabilize.

With the increasing certainty of the Fed's interest rate cut cycle in September, the domestic policy easing space is also increasing. Driven by the expectation of the Fed's interest rate cut, the US dollar exchange rate has weakened significantly in the near future. Against the backdrop of the continuous appreciation of the Japanese yen, Asian currencies have also experienced a more significant appreciation against the US dollar. Based on the trading positions of the CFTC, the speculative long positions of the Japanese yen have been rising since August and have exceeded speculative short positions of the yen, indicating that the foreign exchange market has turned to a net long yen position (Figure 1). We expect that the strengthening of Asian currencies against the US dollar will continue.

Source：Bloomberg，CEIC，Wind

In this context, there is still the possibility of further appreciation of the RMB. Overall, the trend of domestic monetary policy will most likely be further relaxed. In addition to the measures to cut interest rates, the expansion of the central bank's balance sheet is also likely to accelerate. From the change of PBoC’s balance sheet (Figure 2), in Q4 last year, under the background of the issuance of 1 trillion new special purpose treasury bonds, the expansion of the central bank's balance sheet had been significantly accelerated, but during the first half of 2024, PBoC began to shrink its balance sheet, and the total amount of base money showed a volatile decline. We believe that in the context of the sluggish performance of the domestic economy and certain deflationary pressures, the purpose of the central bank's behavior in the first half of the year is to ensure that the RMB exchange rate does not depreciate too aggressively. Therefore, it actually carried out a quantitative tightening. This has also led to a further slowdown in domestic monetary growth, such as M1 and M2, as well as bank loans due to insufficient demand. However, in the context that the depreciation pressure of the RMB has been basically eliminated and is not expected to increase again this year, investors can look forward to the further easing for domestic monetary policy.

Source：Bloomberg，CEIC，Wind

However, we believe that under the current domestic economic situation, the policy easing of PBoC alone may not be able to promote a significant economic recovery. Therefore, we also expect that domestic fiscal policy easing can be further strengthened. First of all, China still has some room for fiscal spending this year. In the first half of this year, the overall speed of government debt offering, whether local or the central government, was slow, even lagging during the first half of last year. For example, from January to July this year, the net increase of local government bonds (including both general LG bonds and special project LG bonds) was only RMB2.14 trillion, significantly lower than RMB2.97 trillion in the same period in 2023. Since August, the issuance and financing speed of LG bonds has begun to accelerate significantly. In August, the net financing of LG bonds was RMB820 billion, and by the end of the month, the total financing had reached RMB2.96 trillion this year, but it was still less than RMB3.68 trillion in the same period last year (Figure 3). At present, the downward pressure towards the economy is still large, but the external exchange rate pressure has been significantly reduced.

Source：Bloomberg, CEIC, Wind

Of course, whether we can find suitable investment projects is still a major bottleneck restricting the landing of local special projects and the use of LG bond funds. Therefore, it is still necessary for the central government to increase its own expenditure to introduce more stimulus policies for domestic demand, in order to stabilize the current domestic economic situation. We also see that in August, in addition to LG bonds, the financing and issuance of treasury debts, including special treasury bonds have accelerated as well (Figure 4).

Source：Bloomberg, CEIC, Wind

However, in the already-announced fiscal spending stimulus, money that will be directly used to support domestic consumption where the household consumption subsidies of a total of RMB150 billion are coming from the special treasury bonds (including household appliance replacement subsidies, daily home-used goods subsidies, automobile subsidies and catering and hotel subsidies). Even if local governments investmore money on top of the central government subsidies, the overall scale of consumption stimulus funds will probably not exceed RMB200 billion in our calculation. We believe that this stimulus is still small relative to China's current total annual retail consumption of RMB48 trillion. Therefore, it may be necessary for policymakers to consider continuing to increase fiscal policy stimulus for consumption before the end of the year.

II.                   Fed's interest rate cut will not change the overall slowdown trend of the US economy.

In our previous reports, we mentioned that the Fed's interest rate cut in September has been baked in. However, we also believe that the Fed's interest rate cut will not change the overall slowdown trend of the US economy.

Firstly, this is due to the fact that the current growth rate of household income in the US has begun to slow down. Since the beginning of Covid19, the US fiscal deficits expanded substantially, and fiscal transfer payments have become an important factor driving the growth of US household income. After Covid, although the US fiscal deficit has not contracted, the pace of expansion has slowed down significantly, resulting in a significant slowdown in the role of fiscal expansion in stimulating household income. Secondly, the savings rate of US residents has also been declining, falling to a new low of 2.9% by the end of July, even lower than before the pandemic. Therefore, whether in terms of income or savings, the growth of household consumption in the US lacks the momentum to accelerate further. At the same time, with the decline of inflation expectations in the US, in fact, consumer confidence among American residents has also weakened significantly in recent months (Figure 5). Therefore, even if the decline in inflation expectations helps the Fed to start cutting interest rates, the negative impact of the weakening of income growth and consumer confidence is likely to be greater.

Source：Bloomberg, CEIC, Wind

Therefore, in the previous rate hike cycle, higher interest rates did not have a great drag on household consumption. Similarly, the rate cuts will not have a significant positive effect on household consumption too. In the past few months, the US mortgage rate fell from a record high of 7.79% to 6.35%, but this has not promoted the rise of mortgage applications. The overall number of mortgage applications, whether new or refinance mortgage applications, is still at the historic bottom (Figure 6). It can be seen that the Fed's small interest rate cut is unlikely to be a factor in pushing American households to leverage again and increase consumption in the near future.

Source：Bloomberg, CEIC, Wind

III.                 We are still bearish on the overall trend of commodity prices.

We have previously put forward a bearish view on the trend of overall commodity prices (except gold). Although the Fed’s rate cut expectation is rising and a weaker US dollar pushed commodities to rebound slightly, we believe that commodity prices are still likely to weaken further in the future.

Firstly, we believe that the overall consumption demand in Europe and the US will gradually slow down. Although we do not believe that the US economy is going to fall into recession, its consumption still faces more headwinds to slow down, as US fiscal spending, employment and wage growth slow down. Also, due to the upcoming election and huge bipartisan divisions, it is difficult for the US government to introduce more expansionary fiscal policies to further stimulate the economy this year.

Secondly, China's domestic demand recovery is slower than expected. As domestic property prices continue to fall, coupled with a slumping domestic stock market and a slowdown in household income growth, it is difficult for domestic demand to improve significantly in the absence of strong domestic fiscal stimulus policies. At the same time, domestic exports have a certain risk of slowing in the future. It may also be due to the slowdown in demand in Europe and the US. On the other hand, the rapid growth of Chinese exports, especially clean energy and automotive products, has caused increasing political pressure in more OECD countries to impose restrictions on Chinese exports in the future. Clean energy and automobiles have big overcapacity problem in China. So if they encounter more and more trade protection restrictions, it is bound to aggravate domestic overcapacity and eventually lead to a slowdown in domestic investment and production growth. Clean energy and automobiles are the most important incremental sources to support the growth of domestic industrial commodity consumption to weather the downward cycle of domestic property market in the past three years.

At the same time, we saw that due to the higher prices and profits of upstream industrial commodities in the past two years, more investment has been poured into the upstream commodity production industry. According to our statistics, the main industries with rapid growth rate of manufacturing investment (>10%) from January to July this year are mostly upstream commodity production industries such as agriculture, forestry, base metals, iron and coal (Figure 7). This means that when the overall domestic resource industry is likely to face a slowdown in demand growth, it may also face an increase in supply in the future. Therefore, unless large-scale consumption stimulus policies are introduced again domestically or abroad, we expect that the overall weakening trend of industrial commodity prices will still remain this year.

Source：Bloomberg, CEIC, Wind

IV.                Market strategy

As for overseas stock markets, we continue to hold our view of the previous monthly report that investors are expected to remain relatively cautious about overseas stock markets before the US election.

A-      Shares continue to fall, and market sentiment is still in a depressed status. Therefore, investors should continue to operate cautiously until the government introduces much more effective policies to support domestic consumption. Of course, considering the need to maintain economic growth and local fiscal sustainability, we believe that September and October may be an important period to observe whether domestic policies will introduce further stimulus policies that exceed expectations.

B-       Previously, we have made a certain analysis on commodities. Similarly, we continue to maintain a bearish view on most industrial commodity prices (except gold).