Blain’s Morning Porridge April 23^nd, 2024: Financialisation, Earnings vs Supply Chains and China part 2.

“The nature of Monkey was irrepressible!”

Today the markets will be focused entirely on Tech earnings and future income expectations. Smart money watches Supply Chains more carefully – and critical to global supply chains is China. While the West is focused on Demand, Asia is thinking about the security of supply.

Two themes to weave together in this Morning’s Porridge:

• The first is how economists and market analysts listen to what firm’s say about demand and their earnings reports. The smart money watches supply chains – which depend on multiple more complex relationships, resources and infrastructure.
• Second, there is an absolutely brilliant article in The Atlantic: Boeing and the Dark Age of American Manufacturing – which I would urge readers to indulge themselves in. It echoes many of the things I’ve said about Boeing in recent years – try extending the analysis to the whole economy.

This week’s US tech firm numbers – and I personally can’t wait for Tesla’s at the close of play today for the coming delicious moment of schadenfreude – will give us insights on how these companies think they are doing, and their expectations. No doubt there will a wave of buyers following the sentiment shifts (knocks or lifts) the reports generate.

Here in the West we endlessly debate when Central Banks are going to ease interest rates, how much of a boost that will give already over-valued stock prices, how renewed inflationary pressures and higher rates might still trigger a hard landing, and how much AI innovation is going to create new trillion-dollar companies. The West is fixated on perceived financial value – most vividly illustrated by the speculative pursuit of Bitcoin, a pure get rich-quick scheme with nothing real to justify its value except a vague premise that money that isn’t money is better than money that is?

Meanwhile, more entrepreneurial nations around the globe, especially in South East Asia, are getting on with the actual business of building new fabs to build better, smaller chips. Here in Europe, (through my new venture Wind Shift Capital), I am seeing some superb invention and innovation in Med-Tech, FinTech, PropTech and BioTech. China continues to secure its’ commodities and resources supply chains, seeking to maintain its industrial base supplying goods to the World even as it tries to pivot to a consumer society – with the problem of persuading consumers to spend, rather than save for old age when there is little welfare provision.

While the markets of the West are entirely focused on financials and returns, the rest of the world is out there building stuff and creating value chains.

Economics is war by different means.

China is seen as a clear threat to the financialisation of the West. How dare they steal all our jobs by producing goods we can’t be bothered to make ourselves, and at much cheaper prices than we could if we did? Hit them with 100% tariffs for their temerity says Trump! (US Readers – mild sarcasm alert.) China is no longer seen as an opportunity, but as the clear enemy. Last weekend’s accommodation in the US Congress to fund Ukraine was achieved by uniting around China as the common threat.

Yet China is the second most important global economy. As The Middle Kingdom struggles with the financial consequences of a burst property bubble, rising youth unemployment, its’ challenging demographics, and inherent problems of being the world’s cheapest producer when suddenly the West is pushing back on China’s slew of cheap goods – it’s now being branded as enemy number 1.

That’s when supply chain dynamics will get very interesting… I suspect there is little built and sold that doesn’t involve made in China or China widgets at its core. The West allowed this to happen – financialisation being the objective of companies rather than product security and company sustainability.

China has now been proscribed by the US as the core of CRINK – the China, Russia, Iran and North Korea axis of evil, fermenting crisis and instability around the globe. Deliberate global destabilisation may well be what Iran, NK and Russia are doing – these states have much in common; they are barely functional kleptocracies where the rule of autocrats and corruption in all its many forms runs riot. They are economic basket cases – what could have been successful growth economies have become single minded war economies propping up the state and its leader’s power.

China is different. It’s economic and growth successes means it cannot conform to the same model. Yes, the Party has been captured by an autocrat who has trampled previous conventions, transferred the power of the state to himself, and is intent on the usual re-writing of history to secure/justify his position. But…. China is not Russia – they are a practical people who sincerely believe in themselves and their own interest. Perversely that should make them easy to deal with on the basis you know their motivations and drivers.

While Iran is run by mad mullahs, Russia by Putin’s fear and intimidation, and NK lives in terror of the Kim family – China is different. The Party may look in control, but it fears the people – which is why any mention of Tiananmen Square or dissent is ruthlessly crushed and it has become a surveillance state. It is acutely aware how failure to deliver continued growth and prosperity, environmental improvement, and increasingly social welfare for its aging population, could well trigger domestic instability. Revolt may sound unlikely, but look how sensitive the Party was to demands to the end Covid restrictions – backing down completely to diffuse unnecessary tensions. It might be an overstatement to say China’s Communist Party rules by consent of the People, but the Iron Rice-Bowl compact between people and party is critical.

Fuelled by the increasingly hostile sentiment towards China, there is a growing opinion it has become un-investible. That spells massive opportunity for investors who see past the conformity and are prepared for risk.

One of the people I most respect in financial markets, Russel Napier, custodian of the Library of Mistakes, has oft said he won’t invest in China because of the lack of transparency and clear rule of law – but Russel was trained as a lawyer and considers himself a financial historian. In contrast I am an economist by training and an investment banker by accident of employment. I look for the most likely returns – and still see China as a massive market opportunity, albeit with significant flaws.

For instance, I mentioned MedTec above. With an aging population that’s got surplus savings, and thus the second largest medical market on the planet, the logic of selling the latest medical devices to the Chinese market is irrefutable. Issues of intellectual property protection are very real, but can be dealt with. Dealing with China works when China sees it to their advantage – a fact any business should factor into Chinese sales efforts.

I don’t buy the narrative the Party would choose confrontation with its biggest markets, or deliberately risk the economy being globally sanctioned if it were to choose conflict in the Taiwan straight. I can, however, see the China/USA struggles continuing to escalate, perhaps into a deep cold-war. China will choose whatever path causes it least economic damage and will continue to secure its own supply chains. The biggest crisis for China isn’t the need to invade Taiwan but to provide social welfare, especially retirement welfare and health care to the growing cadres of elderly workers.

I’d be intrigued to know what readers think?

Out of time, and off to the day job…

Bill Blain

Author of the Morning Porridge

Wind Shift Capital

www.windshift.capital