Special Report: 1.20.2010

Posted by Joe Salimando on Tuesday, January 19, 2010

CHINA, CHANOS, ROGERS, COPPER -- AND MORE

(part two of a two-part blog)

By Joe Salimando

There's a lot to think about when it comes to China, and we covered a bit of it last time. Consider this info, which I tripped over, from a 1/3/10 report on an Indian news website:

India’s apex power sector planning body—the Central Electricity Authority, or CEA—has raised concerns about the quality of Chinese equipment. Questions emailed to the Chinese embassy in New Delhi remained unanswered at the time of filing this report.

The commission is seeking inputs from relevant ministries such as the power ministry, the commerce ministry, the ministry of heavy industries, the Department of Industrial Policy and Promotion as well as the finance ministry for the report.

Does this mean anything for future Chinese buying of copper on world markets? No one can know. India is faced with the need to massively expand its power-generating capacity; China's a cheap place from where it can buy the equipment it needs. Will it shun that option, just because the stuff coming out of China is . . . crutty?

Then there is skepticism on the government numbers coming out of China. [If you look around, there are similar serious questions being asked about government data generated here in the U.S.!] The disconnect between reality and the monthly flow of statistics in China might be gigantic (see this 1/11/10 Investor's Business Daily editorial, "Is China Really Growing That Fast?").

 

What Chanos Says

A 1/8/10 New York Times article covered James Chanos's stance on China. Here's a slice:

Mr. Chanos is warning that China’s hyperstimulated economy is headed for a crash, rather than the sustained boom that most economists predict. Its surging real estate sector, buoyed by a flood of speculative capital, looks like “Dubai times 1,000 — or worse,” he frets. He even suspects that Beijing is cooking its books, faking, among other things, its eye-popping growth rates of more than 8 percent.

“Bubbles are best identified by credit excesses, not valuation excesses,” he said in a recent appearance on CNBC. “And there’s no bigger credit excess than in China.”

Additionally, the article quoted Jimmy Rogers:

“I find it interesting that people who couldn’t spell China 10 years ago are now experts on China,” said Jim Rogers, who co-founded the Quantum Fund with George Soros and now lives in Singapore. “China is not in a bubble.”

Rogers may be right, but the idea that Chanos knows nothing about what he's talking about has been -- repeatedly -- a significant feature of the huge successes he has had over the years. He knew nothing about Baldwin United; he didn't understand Enron; he was just plain wrong about Tyco International -- blahblahblah.

For someone (me!) who has closely followed Rogers, there's a strong possibility that he knows what he's talking about. To someone (me!) who has followed Chanos, there's the fact that the more people call him an idiot (doing everything but using that word), the more you have to take what he says seriously!

 

'Jim Chanos Is Wrong'

The words above were in a Forbes magazine headline. Here's a sliver from that piece:

The Chinese government also has no qualms about overseeing the market and has not been run by Ayn-Rand-loving free marketers like Alan Greenspan, who seemed to believe that no government intervention at all was best.

The Chinese government is gravely concerned about social stability because of the widening gap between the rich and the poor. It is therefore limiting the sizes of new apartments and restricting the construction of stand-alone luxury villas. (Most people in China's urban areas live in high-rise apartment buildings. I myself live in a 60-story building.) The government is also forcing developers to build low-income housing.

And to prevent flipping and excess speculation, it is heavily taxing sellers who unload their properties within two years of buying them.

Joe's take:

China's government seems to get an enormous amount of respect from financial and other commentators these days. This reminds me -- precisely -- of the days in which I considered Alan Greenspan to be a Big Idiot, and the rest of the world was involved in saying how great he was ("The Maestro") . . . and how he could do no wrong. In point of fact, he did A LOT OF WRONG.

As noted in Part One of this piece, China's banks were urged (by the government -- this is, after all, a command-and-control economy!) to make a major increase in loans in 2009. In 2008, they loaned out a total of $600B internally. In the first half of 2009, the total was $1 trillion!

A good rule, when investing or making other business decisions, is to remember the old adage: "No tree grows to the sky." China may yet grow at astounding rates for another year or three; it might well use the $2 trillion it has in forex reserves (mostly from us!) to try to cushion a future catastrophe. Or the government there (a bunch of people put in place by communists, let's remember -- and who probably still think of themselves as communists!) might -- in a crisis -- pull all the wrong levers.

It's possible (as Chanos seems to suspect) that these people might already have gummed things up.

 

Other Voices

Jim Jubak is an economic commentator that I do not follow; you can read him on MoneyCentral. A mid-January column (channeling Chanos?), "The coming economic crisis in China," included this:

Start with the $585 billion in official stimulus spending. Add in bank lending that more than doubled, to $1.4 trillion, in the first 11 months of 2009 from $615 billion in all of 2008. And factor in continued runaway lending of $88 billion in the first week of January. If that rate were to continue, China's banks would wind up lending 50% more in January 2010 than they did in the first month of 2009.

All this has led to an explosion in the country's money supply. Money supply as measured by M1 was up 35% in December from 12 months earlier.

All that money has to go somewhere. Some of it has gone into productive loans or government-financed capital projects. But, clearly, huge amounts have been siphoned off -- in ways that China's politically connected capitalists know how to do so well -- into speculation in real estate and the stock market.

This has led to the enormous price increases for those assets that have stoked fears of a 2007-style financial-asset bust.

It seems really futile to argue with the logic embedded in those paragraphs, doesn't it?

Another commentator (one that I have followed for years) is Satyajit Das. I read a book that he wrote, Traders, Guns and Money, back in 2006. It helped me understand (at just the right time) the insanity that was prevailing in the derivatives market. Recently, Das penned a three-part article on China for an Australian newspaper. I don't believe it's been reprinted anywhere in the U.S., but you can find it online -- part one, part two, part three.

Here are the final paragraphs from the concluding piece:

China can try to continue its existing economic strategy, but this looks increasingly difficult. However, changing its economic model may mean a slower rate of growth. China's challenge will be to learn from the problems and avoid the fate of Japan.

The trade-off between economic and political liberalisation may also prove problematic. As Fang Li, a renowned astro-physicist often called China's Andrei Sakharov, remarks in dissident author Ma Jian's novel about China, Beijing Coma: ''Without a democratic political system in place, [China's] economy will eventually flounder. The people's wealth will be eaten up by the corrupt institutions of this one-party state.'

 

What This Might Mean For Copper

One should hesitate and think hard before running to the side of the market where Jimmy Rogers is NOT sitting. However, it seems pretty clear from the above that there's a lot that can go wrong -- and wrong BIG -- in China. And, just like the Greenspan years, the damage that can be done -- not just to copper's price-per-pound, by the way -- is being ignored.

It's possible that the ultimate implosion of China's economy will be a huge problem for the global economy. The possibility we should think on here is that copper's price will fall but, unlike 2008, when it falls, it might stay down for a while.

I'm not about to draw a conclusion for you. There are a lot of words in this column and Part One. I've provided plenty of links for more reading (and more thinking). 

BUT: You might still ask -- what does Joe think? So here it is: I've spent a lot of time thinking about this before writing it. Personally, I'm a chicken. I don't have the guts to put $5,000 into a futures market speculation -- in copper shorts. The sharks in Chicago (where the futures pits reside) love to see a chump like me coming; 90% of individuals who invest in futures, according to the stats, get wiped out -- which means, they lose 100% of their investment!

So I'm not going to do it. But I sure wish that I could do exactly that, at just the right time. It appears there will be a right time to "go short" China . . . and copper.