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Prayers for Pig Farmers

Prayers for Pig Farmers

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Published by: junkmask on May 16, 2010
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BNP Paribas Securities Asia research is available on Thomson One, Bloomberg, TheMarkets.com, Factset and on http://equities.bnpparibas.com. Please contact your salesperson for authorisation. Please see the important notice on the back page 
Tactical Thursday
13 MAY 2010
Collapse in China yield curve
China's yield curve has collapsed (-22 bps) in the past 10 days.
We believe the next move by the PBOC will be for an easing of policy.
The yield curve is the best leading indicator for such a policy change.
Expectations of an easing of policy should trigger re-rating of the China market.
We believe the next move in China’s monetary stance will be an easing of policy, and theyield curve is the best indicator for investors to watch for a signal of domestic investorsexpectations of such a move. Given the historical relationship between the yield curve andmarket valuations – as the yield curve flattens, PE multiples tend to decline and vice-versa – a steepening of the yield curve should be the trigger for a re-rating in the market, in our view.We do not expect this to happen tomorrow, but given the policy makers lack of appetite for ahard landing in the real economy, we can expect a move in the coming months.The sharp drop in new loans to RMB3.4t in January-April 2010 implies a full-year run rate ofRMB6.8tn – noting that typically 50% of the loans are granted in the January-April period – representing a 1/3
drop in new lending this year compared to last. This is reflected in M2money supply growth, which is down a third from the peak.To interpret and draw the correct investment implications of a flattening Chinese yield curve,we need to keep in mind that the equity market is a discounting mechanism. We are ninemonths into the China bear market, but we expect GDP to start to slow only from 2Q10.If policy makers want to avoid the real economy having a hard landing in 2H10 – similar tothe monetary aggregates in 2Q10 – they would need to start thinking about when to easethe policy now. While the yield curve is telling us that the economy is heading for a hardlanding, we believe there is no appetite among policy makers for such an outcome.
China Yield Curve vs. Market P/E Yr Spread891011121314151617P/E (x)
Chinese yield curve 2-5 yr (LHS)MSCI China 12m fwd P/E (RHS)
Sources: Bloomberg; BNP Paribas 
Ryan Tsai, CFA
+852 2825 1157ryan.tsai@asia.bnpparibas.com
Watch out for a steepening of the yield curve
In market-oriented economies the possible next step in market expectations, given thedramatic flattening of China’s yield curve, would be for an inversion in the yield curve – signaling a recession. However, such an outcome is unthinkable in China. As such, webelieve the next big move in the yield curve would be for a steepening. This wouldreflect the market’s expectations that policy makers will likely ease the monetary policysoon.Given the multiple levers that Chinese policy makers use to influence monetary policy(MP), it is possible that interest rates could rise at the same time policy is being eased.For seasoned China watchers such a development should be no surprise, the three keylevers of MP in China in order of priority are 1) credit quota, 2) RRR, 3) interest rates.Our clear message is that the time to move back into China equities is approaching – we are not there today – but we have identified the indicator that should signal themarket’s expectation of a change in policy, which, in turn, should re-rate the Chinamarket. Currently, we remain positive on value-oriented sectors/stocks, including:banks: Minsheng Bank (1988 HK, CP: HKD7.91, BUY) and capital goods Sany HeavyEquipment (631 HK. CP: HKD4.96, BUY), Lonking Holding (3339 HK. CP: HKD5.38,BUY). Growth sectors: auto, retail and materials remain too expensive, in our view,given the uncertainties.The MSCI China is trading on a PE of 13.3x our 2010 earnings forecasts, which isbelow its long-term average. Singapore and Taiwan are the only other markets in theregion with this characteristic. We are Neutral on China in our regional asset allocationmodel with a year-end index target for the HSCEI of 14,200, representing 23% potentialgain from current levels, similar to the return we forecast for the MSCI Asia Ex Japan.
Exhibit 1: US Yield Curve Exhibit 2: Euro Zone Yield Curve yr spread1.752.002.252.501-May-091-Aug-091-Nov-091-Feb-101-May-102-10 yr spread
Sources: Bloomberg; BNP Paribas Sources: Bloomberg; BNP Paribas 
Summary of our views
Exhibit 3: BNPP Asset Allocation Recommandations Exhibit 4: Asia ex JP Country Over/Under Weights
107777--(5)(15)(10)(5)051015India (OW)Taiwan (OW)Singapore (OW)Malaysia (OW)Indonesia (OW)Korea (N)China (N)Hong Kong (UW)Thailand (UW)Philippines (UW)(%)
Recommended weights relative to benchmarks
   A  u   s   t   r   a   l   i   a   H   K   C   a   s   h   T   h   a   i   l   a   n   d   I   n   d   o   n   e   s   i   a   S   i   n   g   a   p   o   r   e   C   h   i   n   a  +   H   K   M   a   l   a  y   s   i   a   I   n   d   i   a   K   o   r   e   a   T   a   i  w   a   n   C   h   i   n   a
AXJ Mutual Funds Country over/underweights
Note: OW=Overweight; N=Neutral; UW= Underweight.Source: BNP Paribas Sources: EPFR; FactSet; MSCI; BNP Paribas 
Exhibit 5: BNPP Recent Asian Equity Strategy Themes
Tactical Themes Investment Thesis & Ideas Market Sentiment on the Theme
Policy Easing in China China’s yield curve has collapsed (-22 bps) in the past 10days, pointing to the possibility of an easing of policy by thePBOC as the next move. We believe this will be the trigger tore-rate the China market.
 Euro contagion reaches Asia We believe the key short-term effect of the Greek fiscal crisison Asia centres on the risk of portfolio fund outflows. Ourmodel signals the MSCI AXJ index could drop by 17% from 30April levels.
Strategic Themes
Catalysts for Banks We expect banks in the region to outperform under the currentmacro environment, and recommend a switch from India banksto Chinese and Korean banks.
 Implications of a stronger RMB We believe the RMB will resume its appreciating against theUSD in 2010. Potential beneficiaries are China’s A-shares,materials and consumer discretionary sectors. MSCI HongKong will likely underperform.
 Go large We expect large-cap stocks to start outperforming mid/smallcaps, due to a reverse in risk appetite, slowing fund inflows,and as valuations look attractive. We prefer large caps inChina, Hong Kong, Taiwan and Korea.
Cooling Hot
 Five structural themes 1) Alternative Energy: We analyse the drivers of environmentalchange, government support and demand.2) Rural Asia: We analyse the spending power in rural Chinaand India, driven by supportive policies and rising income.3) Aging Challenges: Asia’s fast growing elderly population hasincreasingly become a pressing issue.4) Economic Rebalancing: China’s manufacturers need tomove up the value chain as the economy rebalances.5) New EM: Korea will likely graduate from MSCI EM to DM.UAE and Qatar are most likely to achieve EM status in 2010.
Source: BNP Paribas 

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