« Is online gaming prohibition an option?, Wed., July 19, 2006, 6:48 AM | Main | Gold prices having a bad week, Wed., July 19, 2006, 7:35 AM »

July 19, 2006

The impact of higher interest rates in China, Wed., July 19, 2006, 7:24 AM

The question is how will raising interest rates in China impact the market?

Bill-I see a story on Bloomberg this evening that China is looking to raise interest rates by 9/30 to slow down their economy-your thoughts on this will be appreciated.

It's a fair question, so I posed it to the Shanghai Fly, who responded as follows.

Bill, Well, it appears a few combining factors are forcing interest rate increases here.

Though CPI for the first half of the year only gained 1.3 pct, materials like food energy etc gained 6.1 pct, and PPI was 2.7 pct (first half of the year). CPI and PPI monthly numbers are trending higher, and many academics think our CPI numbers are understated.

Sustained strong monetary supply growth may also create inflationary pressures. Of course, the strong GDP growth may also add to inflationary pressures and the central bank would like to curb lending (and reduce money supply growth?) so it would make sense for interest rates to go higher.

I wonder what effect that will have on Chinese equities, even though I see trading on margin (being allowed now) as a bullish event, it'll be interesting to see which one wins over the other.

P.S. Won't huge overcapacity in production cause deflation rather than inflationary worries?


Yes, the powerful economic growth (+12 pct recently reported) is supply side generated. Foreign Direct Investment (FDI) is pushing the Chinese economy to build more manufacturing plants than are necessary " especially in the face of a global business cycle slowdown. That is a deflationary driver.

Hiking interest rates in China seems to be a monetary policy directed against the consumer, and in my view would add to inflationary pressures. However, it would also strengthen the Yuan versus the USD, which is essential to slow the pace of FDI, which is, in the short-term, driving inflation there.

This is not an easy question " it requires the input of an economist. I'll have to ask my China-expert associates at RiskFile what their view is. Others are free to chime in.

Posted by Posted by Bill Cara on July 19, 2006 07:24:55 AM | Category: China

Discourse

OT- 'navel gazing'


A while back we had kicked around the potential changing dynamics of the PM sector as a result of the GLD introduction. A key issue is/was that gold had become easier to invest in by the average- easier than EVER. This broadening of the buyer base has increased demand for the asset and perhaps in a somewhat self fulfilling manner given those buyers an attractive return relative to other asset classes.

At this particular moment in time I have been wondering if there is a similar potential in the recent introduction of the Proshares inverse funds. Afer all the 'seller' base has now increased dramatically. The average investor can now effectively short the market- easier than he/she EVER has. Volume at this point is light (but rising), with another leg down I would expect these shares to begin to get some serious attention- it is not hard to imagine that they would be among the best performing funds in the 3Q if current trends continue.

Birinyi touched on the issue here-

"Inverse and Leveraged ETFs

There has been much talk lately about the unique new ETFs being offered by ProShares. Not only can individual investors now buy inverse ETFs that correspond to the opposite of the daily performance of the index, but they can also buy leveraged inverse ETFs that correspond to twice the inverse of the daily performance of the index (effectively allowing investors to conveniently double short the market, even in non-margin accounts). The ETFs offer plenty of new strategies that every day investors have had trouble executing in the past, so we wondered if the availability of these new short products would have any impact on markets.

To date, trading in the new ETFs has been relatively illiquid, and therefore they have likely had little impact on the market. Regardless, they bring back memories of the Japanese market during the late 1989 and early 1990 period. Back then several brokerage companies introduced listed warrants on the Nikkei stock market, thereby allowing individual investors the opportunity to short an asset class that they previously had little or no access to, namely Japanese stocks.

Whether or not the puts caused the decline in Japanese stocks or the drop in Japanese stocks led to the listing of the warrants is certainly open to debate, but one cannot deny the similar timeframes in which both events occurred. We would also remind readers that the current US market probably has more differences than similarities with the Japanese market of 1989, however we thought readers would be interested nonetheless."

see related chart at:

http://tickersense.typepad.com/ticker_sense/2006/07/there_has_been_.html

Posted by: stockman [TypeKey Profile Page] at July 19, 2006 8:07 AM [link]

stockman, I believe you are addressing an important point. Commodity-based ETFs and inverse broad market ETFs are facilitating new strategies and tactics for traders. Yes, better decisions can be made, but so can bad ones. The issue is still one of garbage-in, garbage-out. With these new instruments, there is a greater need by traders to know what they are doing. Most of us admire the Formula 1 Ferarri car of Michael Schumacher, but we wouldn't dare drive it in a F-1 race. Traders need to take caution here.

Posted by: Bill Cara [TypeKey Profile Page] at July 19, 2006 9:23 AM [link]