China’s slowdown is really starting to rattle markets

published 29 January 2019

190129-china — US is throwing the book at Huawei, China's, largest smartphone maker

The biggest "real world" worry for global investors right now is China's economy.

Once upon a time, China was irrelevant in global economic terms. But those days are long gone. China's importance became obvious after the financial crisis, when Chinese stimulus helped a great deal to bail out the global economy.

Now China is trying to defuse its own huge debt bubble. But in the process, it can't help but affect its own economic growth (this is something we'll be discussing at our fast-approaching event on 12 February get your tickets now).

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On top of that, trade relations between China and the US don't look like improving soon.

So what does it all mean for your money?

The days of growth at any price are over for China

A slew of warnings from big companies has left investors in no doubt as to the condition of China's economy right now. The days of growth at any price are over.

Yesterday, plant machinery giant Caterpillar warned that it won't see any sales growth in China this year. As a result, it only expects to see "modest" growth in global sales.

The group's share price fell by 9%, which was its worst one-day drop since August 2011, when investors were gripped with fear over the eurozone crisis and the risk of a fresh plunge into deflation. The slowdown warning is especially concerning given that, back in late October, Caterpillar was talking about raising prices this year.

Meanwhile, microchip maker Nvidia reduced its earnings forecasts for its fourth-quarter results buy nearly a fifth, again due to a slowdown in demand in China. Nvidia has been popular because it is connected to almost every sexy theme in the stock market right now.

The company makes the graphics chips that give computers enough power to run the latest video games. These chips are also often used to mine bitcoins, and also for artificial intelligence in cloud computing and self-driving vehicles. As I said, it's a one-stop shop for all the hottest themes of the day.

Anyway, it had already warned on fourth-quarter figures in November, so the fact that it had to warn again so soon was particularly unnerving. Shares in Nvidia lost 15.5% by the end of the day, notes the FT, and the share price has more than halved since October.

These are by no means the first companies to warn investors. Chipmaker Intel last week highlighted rising growth concerns, "especially in China". Aluminium producer Alcoa said that demand for the metal will rise at its slowest pace since the financial crisis, again as a result of slowing demand from China. Jaguar Land Rover is cutting jobs not because of Brexit, but because of the slowing Chinese market.

Later today we'll get an update from Apple and later in the week from Samsung. The smartphone giants have already both warned investors this year. But given that so many other companies have seen things get even worse since their last warnings, investors will be on their toes for further signs of deterioration from these two.

Trade talks between the US and China are going to be tricky

US and Chinese officials are due to meet again for trade talks at the end of this week. However, the optimism investors felt last week might have been a little premature.

The US has just decided to throw the book at China's largest smartphone maker, Huawei and its chief financial officer. Charges include financial fraud, theft of trade secrets, obstruction of justice, breaking US sanctions against Iran and various others.

Two previous Chinese tech firms have been targeted by the US in this way. In one case, telephone maker ZTE got off the hook, effectively as a favour by President Donald Trump to President Xi Jinping. But the other target chipmaker Fujian Jinhua looks set to stop production in March.

If the US imposes export controls on the company, it would be a disaster for the company. "Huawei is less dependent on US suppliers than ZTE, but without access to US technologies, even it will not survive long," notes Dan Wang of Gavekal.

Of course, export controls would also hit the US firms who supply Huawei. As a result, says Wang, they'll be hoping for a ZTE-style outcome, which is more than possible. Huawei could agree to pay a fine and allow US monitors into its business.

Whatever the outcome, technically this has nothing to do with the trade talks. But clearly, having this hit the headlines while the Chinese are about to come over to the US to have discussions about reforms that are all about this precise problem China's, shall we say, relaxed attitude towards intellectual property rights is not conducive to a friendly negotiating atmosphere.

The real problem China faces

The question, of course, is how much any of this matters. China is already "stimulating" its economy by spending more and loosening monetary policy quietly. The US depending on what Jerome Powell decides to say later this week may also see a breather on the monetary policy front.

Those things probably matter more for investors as far as the course of markets for the rest of this year goes. Whatever comes out of the trade talks in the immediate term, it is a long-term process none of these issues will be resolved quickly.

Meanwhile, China's real problems boil down to the fact that growth has been fuelled by massive mal-investment (pumping money into unproductive projects that cannot pay for themselves). The turn towards centralisation of power and away from liberalisation that we've seen under Xi Jinping will not help matters on this front.

So once again, it's all eyes on the Fed to see if central banks can continue to paper over the structural cracks in our economic system. And that boils down to how long it takes Powell to swallow the Greenspan gospel always make sure the market knows you've got its back. Let's see what he says on Thursday.

I'll be discussing the slowdown in China and what it means for investors with Tim Price and Netwealth's Iain Barnes at our event on 12 February. Get your ticket here.

John Stepek is a senior reporter at Bloomberg News and a former editor of MoneyWeek magazine. He graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.