The state of the region

PUBLISHED : Monday, 03 October, 2011, 12:00am
UPDATED : Monday, 03 October, 2011, 12:00am


If you were simply to read the financial pages, you would see a world careening from crisis to crisis. It is a gloomy perspective, often given an alarmist spin. But finance is an abstraction - and the media's version is an abstraction of an abstraction. Behind the indices, tickers, algorithms, symbols, derived values and theoretical profits, there is the 'real economy'.

The real economy is the everyday trade in goods and services and things people actually use. This economy does not have dramatic swings, so it gets less attention. But, ultimately, markets reflect what is going on in this economy. South China Morning Post reporters look at their sectors of expertise.

Recession fears dog mining, but stocks are cheap: Naomi Rovnick

The global mining giants look cheap.

Anglo-Australian miner BHP Billiton has plunged 29 per cent since its April 11 six-month high and is trading at a modest eight times forecast earnings per share. Meanwhile Brazil's Vale, the world's largest iron ore producer, has tumbled to a bargain-basement five times expected earnings.

Mining stocks and metals prices have cratered because investors fear recessions in North America and Europe, and a China slowdown.

'There are concerns the Western world is going to slip into recession, and there is increasing evidence China's commodities demand is slowing, as well,' says Andrew Driscoll, resources analyst at CLSA.

The International Monetary Fund warned last month that Asian growth could be slashed by a third if Europe slips back into recession.

So China, which is the biggest consumer of most commodities, may provide less support for metals prices and mining equities than it has since Beijing launched its massive economic stimulus programme in late 2008.

The mainland generated 28 per cent of BHP's sales in the year to June, and it warned in its annual report late last month that a Chinese slowdown was one of the biggest risks it faced.

Mining is an economically sensitive sector. When global economies are good, factories produce more goods and so demand rises for resources such as iron ore, aluminium and copper.

But when recession looms, metals dealers, who buy their stocks in advance on futures markets, mark prices down. Hedge funds, which are major buyers of metals futures, also tend to bail out.

Traders on the London Metal Exchange are now paying just US$7,539 a tonne for copper for delivery in three months' time, a drop of about 25 per cent since August 1.

Mining stocks have a habit of bouncing back. The sector plunged after the collapse of Lehman Brothers in 2008, partly because hedge funds were selling mining equities and their investments in metals futures as they needed cash to refund investors. After that initial shock, resources shares rebounded. Vale, for example, rose 120 per cent in 2009.

By mid-2009, major consolidation had begun in the resources sector, boosting share prices. The frenzy peaked in April this year, with Barrick Gold's C$7.3 billion (HK$55.6 billion) acquisition of Equinox Minerals.

But the biggest driver of the recovery, post-Lehman, was probably China. Mainland banks, under government orders, lent out a record 17 trillion yuan (HK$20.7 trillion) in 2009 and 2010. Much of this debt flowed into resource-intensive infrastructure projects.

Investors should decide for themselves whether all this bleak news is already priced into mining stocks.

It can be wise to buy shares in times of extreme pessimism. A good definition of the end of a bear market is when the very last bull has given up and sold out.

Shipping slogs through cyclical downturn: Keith Wallis

A year ago, cranes at Kwai Chung Container's port worked around the clock loading containers stuffed full of Christmas and Lunar New Year goodies such as toys, electronics, clothes and other festive essentials onboard massive container ships.

This frenetic activity was replicated at other ports in China as factories tried to keep pace as Western stores restocked after the 2008-09 financial crisis.

The surge in cargo led to containers being left on the dock as there weren't enough ships in service to cope with demand. Carriers charged exporters a premium to guarantee their containers would be loaded.

Now, the same container ships are leaving Hong Kong and other mainland ports barely 90 per cent full, as consumers in Europe and North America rein in spending.

Latest figures from the Port Development Council show overall container volumes through the Hong Kong port rose 3.7 per cent to 16.1 million teu (20-foot equivalent units) in the first eight months. But worryingly, the volume of containers moving through Kwai Chung's nine container terminals actually fell 1.5 per cent in August compared with last year, to 1.52 million teu.

However, container volumes through Hong Kong's river trade and mid-stream facilities in August rose 16.2 per cent to 640,000 teu.

August is traditionally a busy month as exporters and importers prepare for the pre-Christmas rush.

One port insider says the drop in volumes at Kwai Chung's main line terminals reflects the squeezing of orders at mainland factories, while the rise in throughput at the other facilities is due to the redeployment of containers into China.

Eivind Kolding, chief executive of Maersk Line, says this year's pre-holiday rush 'seems to be more like a hill than a peak'. Container volumes on services to Europe are 'OK', he says, but on transpacific services to the US they are 'flat and declining'.

Container lines have been hit by a raft of new vessels.

Monika Krogulska, general manager of consultancy Marsoft (Singapore), says container shipping demand rose 20 per cent in the first half of last year against a 5 per cent rise in capacity.

That has reversed this year, with a 5 per cent rise in demand, while capacity rose 20 per cent between January and June.

This overcapacity has more than halved freight rates in the past year - and already hit corporate earnings.

Krogulska says only four of the world's top 20 container lines, including OOCL and Maersk, made operating profits in the first half.

Thomas Preben Hansen, chief executive of Rickmers Maritime, forecast the top 20 carriers would make combined losses of US$5 billion this year. This compared with combined net profits of US$15 billion last year, which reversed a total US$15 billion net loss for 2009.

Shipping analysts including Krogulska expect container shipping demand and supply will return to equilibrium only around 2014.

This assumes improved economic conditions in Europe and North America that would lead consumers to start spending again - thereby boosting output at mainland plants and throughput at Kwai Chung and other Pearl River Delta terminals.

The resilience of Macau's casino growth: Neil Gough

How long will Macau be able to defy gravity in the event of a downturn in China? It won't. Gambling tends to be recession-resistant when it comes to casual punters. In the last downturn, Macau's cash-based mass market revenue had uninterrupted, if modest, quarterly growth (see chart).

But Macau's reliance on credit-backed high-stakes gaming leaves it vulnerable to economic trends in the city's only real feeder markets: the mainland and Hong Kong. During the last financial crisis, Macau's VIP gaming revenue, which makes up more than 70 per cent of all casino revenue, contracted for three quarters in a row.

Casino revenues were up 47 per cent in the first eight months of the year to 173.1 billion patacas.

But analysts and investors worry that VIP junket agents - middlemen who issue credit to (mainly mainland) high rollers and collect gambling debts - will pull back on lending if they see signs of a deteriorating economy. The effect on revenue would be immediate.

'Tightening is less of an issue: the junkets have consolidated and have lots of capital from internal sources,' says CLSA Asia-Pacific gaming and consumer analyst Aaron Fischer.

'But junkets are very risk averse and will cut lending if they think the risk of bad debts is increasing. They operate on a thin margin and can be wiped out from a few bad debts, which happened in the last downturn - hence the current level of consolidation.'

Most analysts agree Macau's year-on-year casino revenue growth will begin to slow in the next three to six months. This will mainly be due to a high-base effect, as the calendar begins to lap the surge in revenue that began in the fourth quarter of last year.

Macau's casino revenue through September 26 put the full month on track for 40 to 45 per cent growth from a year ago, say Deutsche Bank gaming analysts. They forecast that this month will set a new record for casino revenue on the back of the week-long National Day holiday.

The analysts caution that consensus projections for 25 per cent earnings growth next year could be 10 to 20 per cent off the mark in the event of a recession or if mainland gross domestic product growth slowed to 7.9 per cent.

'We have not factored this into our models, as there is no evidence of any slowdown in Macau yet,' one says.

Beware the global retail downturn: Celine Sun

Mainland consumer spending is the rare investing story that resonates positively with investors. The story is simple: as mainlanders grow richer, they buy more luxury products.

Indeed, mainland consumer spending has been rocketing - its growth should outpace that of the national economy this year, according to brokerage CLSA.

But a falling global economy is catching up with this juggernaut. There is no sign spending will slow, but perhaps as early as next year, its rate of growth may drop.

'Both the European credit crisis and the sluggish economy in the United States will have some impact on the [mainland's] retail industry, though it might be limited,' says Torsten Stocker, partner of global consulting firm Monitor Group. 'So far we have not seen any sign of a slowdown, as there is usually a lead time of several months before things filter down to Asia from Europe or the States.'

The mainland retail market has been booming in recent years.

Official figures show that sales of consumer goods on the mainland grew 16.9 per cent year-on-year from January to August, slightly higher than the 16.8 per cent growth seen in the first seven months.

'We expect the export sector in China, as well as the financial industry in Hong Kong, to be affected in the coming months. This would put pressure on employment, retail sales and tourist flow,' says CLSA senior analyst Aaron Fischer.

Discretionary goods are likely to be the worst affected in a global recession, as people lower their expectations of income growth.

Luxury goods, being highly discretionary, fall squarely into this camp. The urban middle class are core consumers of luxury items. Stocker says if this demographic worries about job security or if employers defer pay rises, spending could decline quickly. But such spending by high-income shoppers is resilient.

As the mainland trades more globally, it is more exposed to the ebb and flow of global market cycles.

The impact of the 2008 financial crisis was reflected in falling mainland sales figures in early 2009. Total retail sales in February 2009 fell 13 per cent compared with a year earlier, according to CLSA.

Footwear and accessories dropped 33 per cent, the largest fall among all categories. Sales in department stores declined 23 per cent and apparel sales 21 per cent.

The central government launched a package of incentives in 2008 and 2009 to encourage spending on home appliances and cars. This year, Beijing has raised the income tax threshold to 3,500 yuan (HK$4,270) from 2,000 yuan and urged local governments to raise the minimum wage.