More than just steel
Steel is just one of China’s problems though. There’s the housing market for starters, where again, the problem is on the supply-side: in the past 20 years China has built 29bn square metres of residential floor space, an amount equating to about 21 square metres for every man, woman and child. And since 1995 China has built 7.5bn square metres of commercial floor space with a further 4.8bn on the way. So a lot of over-capacity. Then there is the rising debt. According to McKinsey & Company, China’s total debt rose to $28 trillion by mid-2014. That was nearly quadruple the level of debt in 2007.
China is the second largest economy in the world and its economic performance has huge implications. China undoubtedly has big challenges ahead. Fixed assets, such as real estate and infrastructure, are an unsustainably high portion of GDP and this level will inevitably fall. The enormous growth in construction will have to slow down and it is difficult to imagine commodities used in fixed assets recovering in this environment. China’s economy needs a radical rebalancing. Were China an open democracy with large external debts it would be difficult to imagine it succeeding. However, because of the government’s unprecedented level of control and its ability to bailout the banking system it may yet succeed. If anyone can manage this it will be them.
I’ve spoken to a lot of fund managers about China, and the general consensus is that China will be OK, but the contrarian in me can’t help feeling a bit uncomfortable that fund managers don’t seem more worried. Nobody really wants to consider the possibility that the situation in China might deteriorate. Unemployment in China is never mentioned and I’ve never even heard anyone consider the possibility of a Chinese recession. There seems to be a natural, unconscious tendency to support the view that China is all right, perhaps because the alternative is too discomforting to consider.
There will be a time to get back into the Chinese and Asian equity markets, as well as commodities, when all the speculative froth has been blown away; it won’t happen in a hurry though. And, while the fortunes of these markets will have little impact on many companies in the UK stock market, they will continue to impact others to a huge extent. Value hunters will be trying hard to avoid the value traps.
Clive Hale is a director at Fundcalibre
