The China-Once-Again-Investing Corporation
Sundeep Tucker of the FT (drawing on work by Z-Ben advisors) reports that the CIC is ready to allow its external managers to start buying equities:
Early last year CIC picked two or three fund management groups for each of six investment mandates, four equity and two fixed income, with an aggregate sum of $12bn. Only the global fixed income mandate was funded before the shutters came down. The managers of the remaining five mandates have just been notified that they are finally about to be funded, in stages, over the coming weeks. A public announcement is expected imminently, according to Z-Ben Advisors, a Shanghai-based consultancy.
Z-Ben says CIC has also earmarked a further $30bn of its liquid assets for passive mandates, which will also be handed to global portfolio managers over the next 6 to 12 months.
Tucker suggets that the CIC’s decision to ”fund” its external managers is a reaction to the difficulties Chinese firms have faced taking large stakes in Western oil and mining companies. I am a bit skeptical that the connection is that direct. Not unless the CIC was helping to finance Chinalco’s investment, which really would be news.
No doubt Chinese officials are frustrated that “their companies” haven’t been able to complete some high profile transactions. On the other hand, the heavy hand of China’s sate in China’s outward investment was always going to make it difficult to convince other countries that outward investment from Chinese firms is motivated purely by commercial concerns. Call it a cost of an exchange rate regime that gives China’s state a de facto monopoly on most of China’s outward investment.
More importantly, though, China simply doesn’t face the same constraints as countries whose reserves barely cover their external debts and have to maintain a fairly liquid portfolio. The foreign portfolio of China’s government is so large that it really doesn’t really have to pick and choose among strategies. It can do a bit of everything.
SAFE – counting the PBoC’s other foreign assets – and the CIC have between $2.2 and 2.3 trillion to invest abroad. The state banks have a sizeable pool of foreign currency (their foreign assets top $200 billion) as well. Chinalco can easily borrow $19 billion (or more) from the state banks even as the CIC hands roughly $40 billion over to external fund managers to invest. And the CIC can increase its exposure to equities even as SAFE nurses the wounds it incurred after investing $150-200 billion (my estimate) of China’s reserves in US, European and Australian equities before global stock markets turned south.
Chinalco’s (proposed) stake in Rio and the CIC’s new investments together total around $60 billion. There were months last year when China’s reserves grow by more than $60 billion. China simply operates on a different scale.
For the past few months, the main constraint on Chinese outward investment were largely self-imposed. China was so afraid of losses that it did little other than buy Treasuries. That does seem to be changing.
As a result, the rest of the world increasingly will have to assess when type of assets Chinese state companies – including companies that want both to make a profit as they support Chinese state goals — can buy. And that China will likely need to decide on the CIC’s role.
The CIC has always been more than simply a portfolio manager. Don’t forget, the CIC formally holds the states’ stakes in the state banks, and the state banks are often used as tools of policy. Including now – when they have been asked to lend without too much consideration of future losses (see Andrew Batson in the Wall Street Journal). Having the CIC manage this stake solved an internal political problem – as it avoided handing the state’s (valuable) stake in the banks over to either the PBoC or the Finance Ministry. But it also made it difficult for China to argue that the CIC was a pure portfolio manager interested solely in returns.
Then again, the crisis has blurred the line between a sovereign wealth fund that invests abroad and a domestic bailout fund in a host of countries.
It has long seemed, though, that the CIC’s initial round of bad investments and then the crisis prevented a clear resolution of China’s internal debate over the CIC’s ultimate mission.
Is its role simply to pick the right external managers for a portion of China’s portfolio?
Or is it going to be a strategic partner for Chinese firms looking to invest abroad and – perhaps — foreign firms looking for a leg up in China?
Is it going to be as transparent as Norway’s sovereign fund? Or would it prefer to keep its activities secret in an effort to avoid scrutiny at home and abroad?
Transparency means fessing up to losses – -and after the public outcry over the CIC’s highly visible losses on Blackstone and Morgan Stanley, the CIC may well place a high priority on avoiding investments where any CIC losses would quickly become visible.
On the other hand, if the CIC is going to invest heavily in index funds – a quite reasonable strategy, and one that raises few political problems abroad – there isn’t much reason for the CIC not be transparent about the management of its external portfolio. That would help to dispel any suspicion that the CIC is being used to help Chinese state firms.
Tucker notes that China is drawn to private equity funds and hedge funds because of their lack of transparency (“There is also rising chatter that CIC and Safe will hand additional monies to hedge funds and private equity firms, neither of whom typically need to declare the source of their financing”) . Interesting. * But also not the best sign.
In some ways though it may not really matter.
The CIC was never going to be the only agent investing Chinese state funds abroad; nothing keeps other institutions from following different strategies than the CIC. And in a world where the lines between the state and the market aren’t as clear as they once were, the number of state investors with mixed motives has soared. The US government (via GM) and Russia’s government (via Sberbank) could soon be joint owners of a car company (Opel) that has most of its operations in Germany. Talk about a strange world.
One administrative note: I am tied up a conference today, and thus my usual analysis of the US trade data will be somewhat delayed.
* During the debate over a code of conduct for sovereign funds, many sovereign funds claimed that they shouldn’t be subject to higher standards of transparency than private pools of capital. That argument was always a bit disingenuous, as many sovereign funds were large investors in less-than-transparent private pools of money. And they weren’t exactly using their clout to push for more transparency.
It is not “a cost of an exchange rate regime” that prevents it. Exchange rates have little to do with it. It is the interference in the allocation (ie. outside market forces) that is the reason. Why sell to a mercantilist regime when it has no intention of being a trade partner and only looks upon you as a supplier of raw material?
It seems that they even want to have the jobs that go along with production on foreign soil.
“The Chinese see the oil sands as expensive, largely because of high labour costs, said Wenran Jiang, associate professor and Mactaggart research chair of the China Institute at the University of Alberta. They feel they can fix the problem by supplying their own cheap workforce, as they are doing in oil projects around the world, but are frustrated by Canadian regulations and public perceptions.
Mr. Jiang said the Chinese are convinced their labour could solve the oil sands’ high-cost challenge and even temper world oil prices, which to some extent are influenced by the cost of producing the most expensive barrels. ”
http://www.financialpost.com/story.html?id=1656706
Seriously, this is getting worse by the day. If Russians now seek to swap their Treasuries for IMFs bonds and republicans here refuse to get on board the IMF financing (and IMF selling their gold off) then the poor people, Pelosi referred to as “beneficiaries” of the new IMF funding might very well turn out as – US citizens.
They are laws preventing secret share holders pact as a mean to take over a company(few cases were published in 2007).
They are no laws preventing shareholders to be well informed (many cases as well,but to the contrary)
Finally a legitimate reason for having hedge funds. Lack of transparrency for investors who like that.
Why would an LDC want to make risky investments abroad. I can see why a mercantilist LDC tries to manage the currency and accepts that there is a price to pay. But why allocate that money to gambling?
How would US citizens feel if the Social Security fund invested in lottery tickets?
Apparently, the Chinese have detected another market top and are renewing their buying.
Manipulators now embark on manipulating the other manipulators around. this is funny.
Glen M:”The Chinese see the oil sands as expensive, largely because of high labour costs, ”
Interesting idea. International slave labor. I guess in the case of Alberta and the Oil Sands it doesn’t sound like that bad of an idea. Actually Canada had trouble getting Canadians to work in Alberta. During the oil boom fast food chains in the area were offering $20/hr for fast food workers. So no doubt labor costs for oil sands workers would be high.
But oil sands production costs don’t really look that bad in today’s oil pricing environment. About $30 cost, so a selling price north of $40 should be good.
The Chinese were trying to buy into the oil sands, but the concern was that they would direct the output back to China rather than sell in Canada or the US. But if the US continues policies that devalue the dollar, Canada may warm up to the idea.
10yrs 30yrs treasury blood bath. wow, 10yrs yield challenging 4%. 30yrs yield challenging 5% soon. forget challenging, break out to top side, imminent, yikes.
Yoda:
Ya, 10s and 30s were taken out to the woodshed and got a really bad spanking. Added 10bps in a couple hours.
The Treasury is auctioning about $19B in new 10s today, but maybe not so coincidentally, Russia announced this morning they intend to diversify away from treasuries and the dollar. So this is no longer a pure indication of market reaction to the new supply today. Plus the Dollar is actually up a half percent this morning, so Forex was unimpressed with the Russian story.
The 10 year auction results are in!
From the Across the Curve blog:
“Tim Geithner invited a host of folks to 10 year note auction party and very few of the guests showed up.
The auction of $ 19 billion 10 year notes received a less than enthusiastic response from investors. I think we can say that investors responded with a rousing Bronx cheer to the offering.
At the time of the auction the issue was trading at 3.955 percent in the brokers market. The market clearing price was 3.99 which represents a tail of 3.5 basis points.
The market has collapsed since the release of the results. As best I can tell the issue has not breached the 4 percent level (yet).
The yield curve is steepening quite a bit in response.”
Me:
Had another two handbagger day so far on my TBT. Go Team!
Yep, sure looks like CIC is at again. Look at the buyside volume on Chinese ADRs…some examples STP, LDK, etc…
Whether flows are through hedge funds, where funds are from CIC? Yes, CIC is “dark pooling” the plays in my view…shielded by channeling funds through hedge funds.
@ Rajesh-
CIC buying may indeed be signal of market top..but dont get in the way of Chinese ADR’s that you feel are overvalued.
seems like the basic story is that CBs/ others are comfortable at the short end of the curve but not at the long end, at least not at current rates. on the other hand, at some point the contractionary impact of higher l-term rates (less mortgage refi) and higher oil should act as a drag on growth and thus inflation and thus induce demand for bonds, unless, of course you believe that the policy response to the crisis is sufficiently inflationary to generate inflation amid huge amounts of spare capacity globally
Brad said, “unless, of course you believe that the policy response to the crisis is sufficiently inflationary to generate inflation amid huge amounts of spare capacity globally”
What ADDITIONAL policy responses might we see as the yield curve steepens further??? If Washington steps up QE to new levels in an effort to regain control of escalating yields, then I think bond investors will be repulsed, and yields will only escalate further perhaps after a short-lived drop.
Hence, it isn’t only real inflation, but it’s also about the investor psychology of inflation expectations that’s driving the market here. Stepping up QE to new levels will only fuel even greater inflation expectations.
On the other hand, if Washington cuts back on its spending plans (not bloody likely) then we might see the bond markets come back to support for the longer-dated Treasuries. But the question here is whether the U.S. financial sector and economy can avoid collapse and depression if the government begins to withdraw its massive propping. It looks like a catch-22 for the U.S. to me.
Glen M: It seems that they even want to have the jobs that go along with production on foreign soil.
Prof. Jiang is a political scientist and obviously knows absolutely nothing about the economics of tar sand production. The big costs are in the chemical processing of the oil sand.
I sometimes wonder why clueless people get quoted in the media. I think it’s because people have a pre-conception of what is going on and just quote someone that confirms those pre-conceptions. You can just google for Prof. Jiang, see what he does and then ask yourself why he should know more about SOE strategy than you or I.
a gap down on 30yr treasury bond like today guarantee more downside.
WStroupe: What ADDITIONAL policy responses might we see as the yield curve steepens further???
I don’t see anything that needs to be done. One point is that the steeper the yield curve, the easier it is to recapitalize the banks. Bank profits go *way* up when the yield curve steepens.
WStroupe: But the question here is whether the U.S. financial sector and economy can avoid collapse and depression if the government begins to withdraw its massive propping.
Yes because propping up the economy is no longer necessary. As long as the Fed and China keeps short term interest rates low, then for the financial sector the higher low term rates, the more money there is to be made.
Also the markets have regained their footing, and people are dumping Treasuries to buy other stuff. Corporate bond spreads have narrowed which lowers the impact of the increase in treasuries spending.
It appears to me that China is bailing out the US. Yet again. It’s stopped buying agencies, but by buying short term Treasuries, it steepens the yield curve, which increases bank profits, which then go to pay off the housing losses.
[...] Brad Setser: Follow the Money » Blog Archive » The China-Once … By bsetser Early last year CIC picked two or three fund management groups for each of six investment mandates, four equity and two fixed income, with an aggregate sum of $12bn. Only the global fixed income mandate was funded before the shutters … Brad Setser: Follow the Money – http://blogs.cfr.org/setser/ [...]
i expect yields on 10-20-30 to continue to increase over next 2-3 months. Why in the world would anyone buy 10YR @ 4% in U.S. dollars is beyond me. Especially with current Fed policy of QE.
Were I an investor I’d start to have interest long term government bonds at 8-10%. There are too many currency risks to buy Tbills at current rates.
Individuals would have much fatter returns playing Oil or even Agriculture at the beginning of 09.
My opinion is, yields will climb to a level where they throw the U.S. economy into a deeper recession in H2 of 2009. Once long yields move past 6% housing and banking won’t look too attractive, no matter how much the banks pay lobbyists in congress for changes to accounting standards. The Yield curve is moving up, no way out of this one..
Twofish,
Bank profits rely upon people being able to borrow – but today’s report on mortgages shows the higher yields/interest rates are already stalling new mortgages. With higher rates and dire unemployment rates, and a continued credit seizure only exacerbated by the higher rates, banks aren’t going to see increased profits – they’re going to see increased losses.
Also, I don’t think anyone believes the U.S. financial sector and economy don’t need massive propping by the government anymore. Without that propping they will collapse like a bunch of broccoli – to quote a famous movie line.
The Fed and Treasury are in trouble, and either they don’t know how much trouble or they aren’t wanting to admit it publicly.
@ Wstroupe,
unfortunately, in my view the Federal Reserve collapses within 5 years (perhaps sooner).
I suggest you start reading on the alternative framework of a new international system (through IMF). Reserves backed by commodities, and or later possibility of whats coined “digital gold”.
I don’t know when or why, but I’m under the impression that we’ll have a Central Bank Crisis in the near future. The current structure of Central Banks is difficult in our globalized world…
Brad,
Your last entry was very confused. You seemed to be debating whether China was growing as the IMF thinks, or whether China is shrinking, as their electricity production statistics suggest.
Only one non-Chinese generated statistic supports the idea that China has been growing, that being that China’s imports from the United States in March were higher than its imports from the United States in February.
However, the new US trade statistics published this morning show that in March China imported $6.3 billion from the United States and in April China imported 5.7 billion. Thus its imports from the US are significantly down.
Click here to read the latest trade release from the BEA and then check out Exhibit 14a.
By the way, the US trade deficit with China has now risen two months in a row, despite the fact that both imports and exports have been falling. The IMFs theory that US trade deficits were going to stay at their low level of the first quarter (as a percentage of US GDP) was also wishful thinking.
WEStroupe,
I think you were very close to an essential truth when you wrote:
“(I)t isn’t only real inflation, but it’s also about the investor psychology of inflation expectations that’s driving the market here. Stepping up QE to new levels will only fuel even greater inflation expectations.”
But it’s not the private investors who are expecting inflation, it’s the central bankers. As Brad pointed out about a week ago, the yield curve started to shift when the central banks, perhaps led by the People’s Bank of China, stopped buying long-term treasuries.
If the People’s Bank of China planned to support the dollar for another 2-3 years or so, and then pull the plug, then we would be seeing the precise yield curve that we are seeing.
It could be that Bernanke will be the last central banker in the world to figure out that his decision to ignore the trade deficits is taking the American economy directly toward the edge of a cliff.
There is a solution that would balance trade and pull America away from the precipice should the Obama administration decide to act: Warren Buffett’s Import Certificates Plan.
WS Troupe,
“Bank profits rely upon people being able to borrow – but today’s report on mortgages shows the higher yields/interest rates are already stalling new mortgages. With higher rates and dire unemployment rates, and a continued credit seizure only exacerbated by the higher rates, banks aren’t going to see increased profits – they’re going to see increased losses.”
Ws and 2 Fish, reality is a little more complicated. A strongly upward sloping yield curve (especially up to 5 years) would help or hurt banks immediately depending on the structure depending on the structure of their interest sensitivity. Banks benefit from low short term rates because that makes funding existing fixed or no rate assets cheaper. Benefiting from a steeper yield curve requires putting more fixed rate assets on the books (or use derivatives to the same effect) and that may increase interest rate risk, not necessarily affordable when capital is still very scarce. Of course banks with the risk capacity to lengthen asset maturities will benefit in the short term if they do so.
Interest rates tend to have an effect on bank current profits, and a not necessarily similar effect on bank valuations.
Under normal circumstances (commercial) bank values tend to respond positively to higher interest rates (deposit franchise value) . But that may not be reflected in share valuations because the PV of future dividends (a traditionally important feature of commercial bank stocks) goes down. In addition you now have three more factors that can complicate valuation: (1) temporary halt in industry consolidation, no market for bank franchises, ergo franchise value effect much less important (2) bank interest sensitivities are not easy to observe and may have become much more diverse during the past year (3) due to the impact of the recession many commercial banks may not be in a position to change their portfolio to take advantage.
All in all I think that a recovery that improves the value of distressed assets will have more of an effect on the average commercial bank that a steeper yield curve.
China is collaborating with Iran to develop their local refining capacity. Gazprom is also investing in this. Iran is one of the world’s largest producers of crude oil but due to the US-imposed sanctions the country is dependent on importing refined petroleum products. The US strategy is to use Iran’s dependency on imported gas, along with sanctions against refining there, to bring that country to its knees.
Secondly, the US wants to divert Iran’s crude oil westwards, to reduce Europe’s dependence on Russian oil. Whereas Russia and China aim to have the oil flowing East from Iran, to Pakistan, and then to China or India.
In situations like this the consideration is that the US doesn’t want a commercially viable and very profitable business to go on.
The US prevented first Essar and then the Reliance Group from doing business with Iran.
Due to the Government of India’s obsequiousness to the US,they had little of no ability to defend the Indian companies’ right to operate in the lucrative domestic Iran oil and gas market.
Brad Setser is projecting an image in this post where the US is thought of as a very open, capitalist country that is oh-so-goody-goody. And the evil China funds can’t be relied upon to be commercial, and not strategic in their approach. In actuality, the US can’t be trusted to operate in a free-and-fair manner at all.
The case of intervention with Reliance was using the US EXIM Bank’s $900 million guarantee for Reliance’s funding. The US congress threatened to withdraw the guarantee if reliance were to continue to supply petrol to Iran.
Yes, because China’s money was welcomed with opened arms by Rio Tinto and Unocal, for instance.
China will be mostly allowed to buy garbage (Hummer) and US Treasuries.
Purple,
Charity among states is pretty rare. Would you like your government to be charitable to foreigners? With your tax dollars?
Glen,
Mr. Jiang said the Chinese are convinced their labour could solve the oil sands’ high-cost challenge and even temper world oil prices, which to some extent are influenced by the cost of producing the most expensive barrels. ”
Even if prof Jiang has a Canadese passport we will count him as true patriot. Some day millions of workers will arrive, shovels at the ready.
May Chinese exports dropped record 26.4% year over year, yet U.S. government statistics report increase in May retail sales including:
“Sales at clothing stores rose 0.4%”
I know price of oil went up, but some things just don’t add up….
[...] owner of Hummer. The China Investment Corporation just increased its holdings in Morgan Stanley (and is generally seen to be more active in financial markets). PetroChina will purchase a 45.5 % stake in Singapore Petroleum Co. The list goes [...]
bsetser said: “unless, of course you believe that the policy response to the crisis is sufficiently inflationary to generate inflation amid huge amounts of spare capacity globally”
I think you are ignoring one possibility. Supply goes down in the USA, the lower and middle class and the gov’t become basically bankrupt, and the dollar goes down. The dollar going down “cuts the USA off” from spare capacity globally.
FollowTheMoney said: “unfortunately, in my view the Federal Reserve collapses within 5 years (perhaps sooner).”
Unfortunately???
How about the sooner the better?
Then ABOLISH it. Then make it illegal with a constitutional amendment that allows anyone to sue to stop it.
Howard Richman said: “If the People’s Bank of China planned to support the dollar for another 2-3 years or so, and then pull the plug, then we would be seeing the precise yield curve that we are seeing.”
So is the chinese intent to bankrupt the lower and middle class of the USA and the USA gov’t and then dump them into third world status???
Howard Richman said: “It could be that Bernanke will be the last central banker in the world to figure out that his decision to ignore the trade deficits is taking the American economy directly toward the edge of a cliff.”
Are you sure that bernanke, greenspan, and the fed are not “in on the scheme”???
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