Take a leap! At the gap between expectations and reality, that is — always the chief driver of the stock market. At present, it may be a big daunting chasm. Fear of the impact of the tragic, grinding war in Ukraine and hot overseas inflation. Fear of the “tightening” at central banks across the world hurting China’s export demand. And prolonged Covid restrictions in Shanghai and Beijing. All this and more has torpedoed global sentiment thus far this year. But beneath the sour surface lurk powerful positives — extra strong because they are unseen. Their stealthy presence amid widespread gloom upends global recession fears and provides evidence that brighter days are ahead for China stocks.
You needn’t look far to see rampant negativity. Many in China have lost hope that the 15-month bear market will ever end. Institutional investor confidence in Asia has plummeted since November. Elsewhere, over half of U.S. respondents were bearish in the American Association of Individual Investors’ May 4 survey. Global fund managers have slashed equity allocations and raised cash, according to the Bank of America’s latest survey. It also showed economic pessimism is at its highest since records began in 2007.
Headlines everywhere feature pessimistic takes on China’s growth outlook based on the ongoing fight against Covid and weaker outlooks for its trade partners overseas. For China, that is exactly the kind of broad pessimism that new bull markets are born in.
Backward-looking metrics like China’s Covid restriction-driven first-quarter GDP slowdown fuel pessimists’ fire. But forward-looking indicators tell a more nuanced tale. President Xi stressed recently that China must minimize the pandemic’s impact on economic and social development.
The Conference Board’s Leading Economic Index for China fell by 0.1% month-on-month in March. Yes, S&P Global’s Chinese purchasing managers’ indexes (PMI) saw declining services activity, manufacturing output and new orders. But all this data comes with a huge and overlooked silver lining. It won’t last.
The negative numbers are little more than a symptom of China’s temporary virus countermeasures. Markets have seen this before all over the world. In China, a 6.9% contraction in the first quarter of 2020 flipped to 3.1% growth as restrictions ended. Easing restrictions will again usher in a quick economic rebound.
China’s key trade partners are in far better shape than feared. America’s forward-looking indicators show growth is set to persist. The Conference Board’s U.S. Leading Economic Index (LEI) rose 0.3% month-on-month in March after jumping 0.6% in February. This index of 10 forward-looking indicators has fallen for months before every U.S. recession since the 1950s, excluding 2020’s Covid anomaly.
Underpinning LEI’s rise is the U.S.’s yield curve, and the difference between 10 year and 90-day U.S. government interest rates. Western banks borrow short-term from each other, central banks and the public to fund long-term loans. Hence, the difference between short and long rates is a proxy for their future lending profits — and a key forward-looking indicator of economic growth. Wide spreads generally imply improved lending and growth ahead, flat curves suggest slower growth, and materially inverted curves — when short-term rates top long-term rates — are a warning that lending will be choked off and a recession lies ahead. America’s 10-year minus 90-day yield spread is the best metric for measuring this and always has been, as it best resembles banks’ short and long-term loan versus deposit maturities. Even after the U.S. Federal Reserve’s early-May 50 basis point hike, it is over a half percentage point wider than a year ago and higher than Jan. 1 this year.
Other LEI components also show healthy U.S. growth, despite inflation running hotter than China’s (and a misleading negative first quarter GDP reading tied to inventory shifts). After slipping 0.3% month-on-month in February, nondefense durable goods orders excluding aircraft — a proxy for U.S. business investment in equipment — surged 1% in March. Manufacturing new orders pointed to growth in March and April, according to the Institute for Supply Management’s PMIs
Service sector new orders — not an LEI component, but a gauge covering America’s dominant economic sector — were also strong. Typically, today’s new orders are tomorrow’s production. Supply chain snarls muddy that maxim to some extent, but the overall signals are still positive.
Unseen positives abound in Europe also. Broadly loosening Covid restrictions there have provided an underappreciated tailwind unleashing restaurant, travel and entertainment activity — boosting service sectors regionally.
Composite manufacturing and services PMIs for Germany, Spain and Italy also showed output rising. France’s hit a four-year high. New business volumes across the bloc accelerated amid improving demand. All this more than compensates for new manufacturing orders slowing, and, in Germany, even contracting. If Europe — far more affected by rising energy prices and the Russia-Ukraine war — isn’t succumbing to the pressures, the likelihood of global recession is very low.
Stealthy positives percolate through China, too. While many fear U.S. Federal Reserve hikes accelerating capital outflows from China, history shows those have little effect — as I said back in February. Plus, Beijing approving KKR & Co. Inc. and BlackRock Inc.’s overseas activities exemplifies China opening its equity markets to foreigners. China’s 2022 list of approved sectors for foreign investment is expanding, too. The regulatory shifts affecting sentiment towards Big Tech in China appear to be easing, with officials now announcing new policies aimed at supporting innovation and globalization.
CEOs aren’t seeing signs of any looming global recession either. First quarter investor calls reveal their optimism and companies’ ability to adapt — a sneaky tailwind for Chinese stocks. Yum China’s CEO reported 10% to 15% of its stores generating 40% to 50% of pre-restriction sales in Shanghai despite the virus countermeasures — that’s huge! An array of Chinese firms unveiled dividend increases and share buybacks — bullish signs of confidence in their companies’ outlooks. Those buybacks boost shareholders’ stake in future earnings, too—a fundamental plus that few have noticed.
In the U.S., Procter & Gamble’s CFO said customers haven’t switched to cheaper brands as prices rose — many actually traded up to pricier offerings! Crucially, firms haven’t had to slash margins to stoke demand. U.S. firms’ gross operating profit margins (sales minus cost of goods sold, a crucial measure of basic, core profitability) are 33.8% now, up slightly from 33.5% in the fourth quarter of 2021 — and even higher than the 32.0% as 2019 ended, pre-Covid. Firms tracking the services sector show U.S. consumer spending on global travel and restaurant visits are up markedly.
These data aren’t predictive. But they prove that which is feared isn’t tanking global commerce — at all. They depict a moderately growing global economy defying the scare stories.
Always remember: Stocks don’t care whether news is inherently “good” or “bad.” They care how it evolves against prior expectations. Mediocre news is just fine if everyone expects ugly. Today, dour sentiment and sneaky positives present a bullish tableau onto which you should leap — to catch the bounce.
Ken Fisher is the founder and executive chairman of Fisher Investments.
The views and opinions expressed in this opinion section are those of the authors and do not necessarily reflect the editorial positions of Caixin Media.
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