A Dramatic Change for Chinese Stocks
Moving closer to a trade deal... Beware a 'sell the news' event... A dramatic change for Chinese stocks... Financials are leading... Sjug's latest China discovery...
Is the U.S. finally moving closer to a legitimate trade deal with China?
If the latest reports from both governments are any indication, the answer appears to be "yes." As the Wall Street Journal reported last night...
President Trump said Sunday he would delay an increase in tariffs on Chinese goods set to take effect at the end of this week, citing "substantial progress" on issues including intellectual property and technology transfer after a weekend of talks.
U.S. tariffs on $200 billion of Chinese goods had been scheduled to rise to 25% from 10% at 12:01 a.m. Saturday.
In recent talks, Beijing offered to increase purchases of U.S. farm and energy products and services, ease restrictions on U.S. firms in financial services and auto manufacturing and improve protection of U.S. intellectual-property rights, according to people briefed on the discussions...
The Chinese delegation is expected to leave Washington for Beijing on Monday afternoon. A statement by the official Xinhua News Agency echoed Mr. Trump's tweets, saying negotiations were centered on putting together the text of an agreement and that "substantial progress" has been made.
This progress comes with one significant caveat...
It excludes many of the most contentious issues that led the White House to initiate the trade war to begin with. More from the Journal...
"Trump has now substantially ratcheted up the pressure on his negotiators to strike a deal with China, even if it does little to assuage U.S. hard-liners' concerns about China's commitments on core structural issues," said Cornell University China expert Eswar Prasad. "There is still a yawning gap between the two sides on major issues due to U.S. lack of trust in China's commitments on structural issues and China's unwillingness to make any fundamental changes to its industrial and economic strategies."
Divisions also remain on how to address U.S. complaints that Chinese authorities and companies pressure U.S. companies to share technology. Chinese officials deny that Beijing applies such pressure and argue that foreign firms voluntarily share technology in exchange for access to China's markets.
In other words, we may well see a deal made soon...
But it looks increasingly likely that it will be far less favorable to the U.S. than the White House has repeatedly promised.
Why does this matter?
Remember, these repeated promises have helped push U.S. stocks in a straight line higher for the past two months. The benchmark S&P 500 Index has risen nearly 20% off its late December bottom.
However, various technical indicators show the market is now more "overbought" than any time since its January and October 2018 peaks. Likewise, short-term measures of market sentiment have reached bullish extremes that typically coincide with at least a temporary pullback.
If this trade deal falls short of the market's expectations, it could easily trigger a "sell the news" event for U.S. stocks.
We can't necessarily say the same thing for Chinese stocks...
While U.S. markets opened higher following Sunday's announcements, Chinese markets surged. The benchmark Shanghai Stock Exchange Composite Index rose 5.6% today, its largest daily percentage gain since July 2015.
As regular Digest readers know, these stocks have suffered far worse than their U.S. counterparts since the trade war began in early 2018.
While the S&P 500 fell nearly 20% from its 2018 peak, the Shanghai Composite fell more than 30%. And domestic Chinese stocks – known as "A-shares" – performed even worse, falling more than 35% peak-to-trough.
But something has changed recently...
The next chart compares the performance of Chinese A-shares – as tracked by the KraneShares Bosera MSCI China A Fund (KBA) – to the S&P 500.
When this ratio is moving lower, it means U.S. stocks are outperforming Chinese stocks. When it's moving higher, China is beating the U.S...
As you can see, this ratio actually bottomed back in mid-October – weeks before either of these markets made their nominal December lows – and has been quietly moving higher for the past several months.
This is a big deal. Chinese stocks are once again beating U.S. stocks for the first time since the trade war began... And the recent acceleration in this ratio suggests this outperformance is likely to continue.
One group of Chinese stocks in particular has been leading the way higher...
The following chart compares Chinese financial stocks to the S&P 500. As you can see, following today's big rally, this ratio is quickly closing in on new 52-week highs...
This is great news for Steve Sjuggerud's True Wealth subscribers.
You see, Steve just recommended buying these stocks in the latest issue of True Wealth, published earlier this month. As he explained in the issue, the bullish case for Chinese financials comes down to three simple numbers: 4-2-1...
It is THE biggest problem facing the world's second-largest economy. Fixing it will require trillions (yes, trillions) of dollars. Here's the deal: China is about to grow old before it grows rich...
Thanks to China's "one-child policy," which lasted from 1979 to 2015, each young Chinese worker today faces supporting four grandparents and two parents as they get older. That is the 4-2-1 Problem.
In China, young people are supposed to look after their parents and grandparents. It's expected. (Actually, it's more than expected – for example, Shanghai recently passed a law requiring adult children to visit their parents in nursing homes.)
As China has moved from a poor country to the world's second-largest economy, it hasn't set aside enough money for its retirees – yet. And even though the Chinese save money at a much higher rate than Americans, surveys show most Chinese adults still worry they won't have enough to retire.
The numbers are staggering... By the year 2050, 330 million Chinese people will be over age 65. So trillions of dollars need to be saved, starting now, to head off this problem.
In short, the Chinese government is determined to fix this...
And it authorized one of its two main pension funds to invest up to 40% of its assets in stocks to make up for this shortfall.
This means as much as $1 trillion more will flow into Chinese stocks by 2025. But as Steve explained, the government itself isn't going to manage these investments. Instead, it's going to hire the best asset managers in China. More from the issue...
You might think that China would consider huge American banks like JPMorgan Chase over the lesser-known local Chinese banks. But think again... The largest banks in the world are no longer in the U.S. today. They are actually in... China!
The world's four largest banks – actually, the world's four largest businesses based on assets – are the "Big Four" Chinese banks... So when the Chinese government puts a lot of money into its pension funds, my strong bet is that it will turn to its own leading banks and insurance companies to manage that money.
These companies will make incredible amounts in fees – over a long period of time – from this windfall of assets.
But this isn't the only bullish tailwind for Chinese financials...
You see, these companies won't just benefit from managing these funds. Their shares will also benefit from the investments as well. As Steve explained...
The Chinese government can't put a trillion dollars into microcaps or shares of startup companies. It would throw the markets into chaos. In order to have the smallest possible effect on stock prices, China's pension money will have to flow into China's largest, most tradeable names.
Interestingly, this connects to our other big China investment theme. Global index provider MSCI is in the process of adding Chinese "A-shares" – stocks trading in mainland China – to its indexes. Over time, up to $1 trillion will flow into Chinese A-shares as this shift takes place. These are the exact same names I expect to benefit as China invests its pension funds in the stock market... China's largest and most tradeable stocks.
So... what are these names? They are the top names in the MSCI China A Inclusion Index. Not only that, but 11 out of the top 20 names in this index are – get this – banks and insurance companies...
So... the Chinese banks and insurance companies that will manage China's pension money... will primarily invest in – wait for it – MORE CHINESE BANKS AND INSURANCE COMPANIES!
And to top it all off, Steve noted that these companies as a group are unbelievably cheap today. They could literally double from here and still be reasonably valued.
If you're looking for a relatively low-risk way to invest in Chinese stocks today, these companies should be at the top of your list. True Wealth subscribers can get all the details on Steve's favorite way to invest in this trend in the February issue right here.
Of course, this isn't the only China-related opportunity Steve is excited about today...
In fact, he recently discovered another with even greater upside potential.
It's a truly once-in-a-lifetime situation that he believes could unleash a massive boom in Chinese technology stocks... a boom that could rival – or even exceed – the 1990s dot-com boom here in the U.S. And Steve says it could all begin in a matter of months.
He's prepared a detailed presentation explaining it all. Click here to see it now.
New 52-week highs (as of 2/22/19): Automatic Data Processing (ADP), CBRE Group (CBRE), Essex Property Trust (ESS), Ingersoll Rand (IR), Kinder Morgan (KMI), MarketAxess (MKTX), Motorola Solutions (MSI), Anglo American (NGLOY), New York Times (NYT), Procter & Gamble (PG), Polymetal (LSE: POLY), Seabridge Gold (SA), Sandstorm Gold (SAND), Starbucks (SBUX), Spirit AeroSystems (SPR), and Vanguard Real Estate Fund (VNQ).
We'll share feedback on this year's annual Report Card in tomorrow's Digest. In the meantime, you can read Part I and Part II if you missed them last week. And be sure to let us know what you thought at feedback@stansberryresearch.com. Good or bad, we read every note.
Regards,
Justin Brill
Baltimore, Maryland
February 25, 2019