Does anyone think any of below very familiar to us, today?
Let's pray
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Irving Fisher, the debt-deflation theory of Great Depression
1. Mild Gloom and Shock to Confidence, Debt liquidation
2. Money Interest on Safe Loan falls
3. Distress Selling; Fall in security price and commodity price
4. Real interest rate increase; real debt increase
5. Contraction of deposit currency
6. Reduction in net worth
7. Decrease in profits; increase in losses; reduction in volume of stock trading
8. Decrease in construction, reduction in output, reduction in trade, unemployment
9. Hoarding
10. Runs of banks; Banks curtailing loans and selling investments; Bank failures
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"The over-indebtedness hitherto presupposed must have had its starters. It may be started by many causes, of which the most common appears to be new opportunities to invest at a big prospective profit, as compared with ordinary profits and interest, such as through new inventions, new industries, development of new resources, opening of new lands or new markets.
Easy money is the great cause of over-borrowing. When an investor thinks he can make over 100 per cent per annum by borrowing at 6 per cent, he will be tempted to borrow, and to invest or speculate with borrowed money. This was a prime cause leading to the over-indebtedness of 1929. Inventions and technological improvements created wonderful investment opportunities, and so caused big debts."
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So what is the solution?
"It is always economically possible to stop or prevent such a depression simply by reflating the price level up to the average level at which outstanding debts were contracted by existing debtors and assumed by existing creditors, and then maintaining that level unchanged."
This is why the Fed is expanding its balance sheet substantially.
But unfortunately, reflating is not a task as easy as Fisher believes.
The hilarious HK-China stock express scheme fiasco remains unresolved, with exact details of the scheme to allow China individual investors to buy stocks listed in HKEx still in limbo. On Tuesday, Hong Kong Economic Times reported that the minimum investment threshold will be RMB 300,000 for each investor.
As background information, according to the 2007 World Wealth Report by Merrill Lynch, there were about 345,000 High Net Worth Individuals in the Mainland in 2006 (HNWIs, individuals with financial assets over US1 million, or around RMB 7.5 million using recent exchange rate).
So how much money will flow to Hong Kong? Because money can be lumped together - on a household basis amongst members, on a friendship basis, on other "blackmarket" channels (pool together and invest the money in a pre-determined list of stocks e.g. HSI and HKCEI related securities etc.), the exact amount of capital will be impossible to be estimated.
I would like to address one point right here. But just give some background information. One of the criticisms for previously state-owned enterprises listing in Hong Kong is that due to capital control, people in the Mainland cannot enjoy fruits of rapid economic development and privatisation through buying the shares of these enterprises. Particularly given the fact that stock prices of these enterprises skyrocketed (JUST look at China Mobile 0941.hk), this is a de facto "selling nation's assets at pathetic prices" (賤賣國家資產) to "foreigners" - Hong Kong has no capital control and everyone can so buy the Mainland assets.
So when this Stock Direct Express Scheme is announced, many commentators believe this situation is about the change. Everyone in the Mainland can enjoy the fruits of economic growth, buy a stake in state-owned assets etc. Yet with its actual implementation date in limbo and the expected high hurdle - Because we need to protect financial security and stability (the Official answer), Because we need to protect our vest interests in the Mainland (the Hidden agenda), only the richer ones can apply for the Scheme. What a titled but shadow policy towards the wealthy ones, not to mention the physical location of the BOC, TianJin, is also on the wealthier eastern coast.
And after market closed on Friday, the Exchange Fund has declared a 5.88% shareholding in HKEx. Basing on the press release by the Financial Secretary, quoting that "this acquisition underlines the Government's support for HKEx and
enables the Government, over the longer term, to contribute as a
shareholder to the promotion of HKEx's strategic development", there are three extremely weird dimensions :
(1) The ordinance related to HKEx stipulates that unless approval is given, no individual investor can hold over 5% share of HKEx. And... the approval can only be given by the Financial Secretary, who is now the investor (through the Exchange Fund). So we have individual approving himself for this. The Player and the Official is now the same person;
(2) It is not a common practice for the Government to "invest" in private companies for various reasons. Will it be ridiculous for the Hong Kong Government to invest Hong Kong Electric or China Light Power, over which the Government also regulates? And the Exchange Fund and HKMA is to maintain the monetary and banking stability of Hong Kong. It is NOT to achieve purpose other than that.
(3) And if it is to establish a strategic cross-holding between HK and Mainland on stock exchanges, it is NOT necessary for the Government to buy a stake in a private, profiteering, listed company for achieving so. As a private company, with the blessing of the HKSAR Government, the company can itself establish that strategic cross-holding. Did the Government buy CX (0293.hk) before its strategic cross-holding with AirChina (0753.hk)? No.
This is a very ridiculous transation and should deserve condemnation, through we must also recognize that with the Government's being its stockholder, HKEx will continue to receive favourable policy treatment from the Government. The price of HKEx will skyrocket on Monday and probably reach HK$170 next week. But investors should be caution that, then HKEx will be subject to higher regulatory and policy risk of BOTH the Hong Kong and Mainland Government in the longer term.
It must be cautioned that Hong Kong's Prime Rate is likely to increase, probably by 25 b.p.,should such high HIBOR rate sustain for another week (100 b.p. = 1%). 3-month, 6-month and 1-year HIBORs have increased and stayed at over 4.7% p.a. level. As banks have to pay for non-interest operating expense (such as wage and rents), the interest spread (the difference between interest rate charged and paid by banks, representing the profit margin) is about 300-325 b.p. for a 7.75% prime rate, which are slightly better than breaking even. Despite the weak loan-to-deposit ratio (74% for HK$ at end-June, and 54% for all currency) and stable interbank liqudity (at around HK$1.3 billion), prime rate will probably be increased, by 25 b.p.
Many in the US guess the Fed will turn more aggressive in reducing Fed Fund Target Rate towards this end of this year, because of the fear in recession, of the Sub-prime turmoil, of underperforming housing market. My guess is if recession is expected for next year, if Sub-prime is going to have real impact on the economy, and if the underperforming housing market, because of time-lag in monetary policy - the impact of TODAY's action will appear 2-3 quarters later, the Fed should reduce its rate immediately, rather than waiting until everything is over.
If this is correct, the fact that the Fed does not act aggressively today may be due to its belief that these worries are only temporary or, whatever the Fed does it is not gonna rescue. I suspect the Fed still believes the Sub Prime woes are not short term and is going to affect long term growth issues.
The local stock market remains robust this week, closing at 23,984 or about 1,060 poitns higher than last week close. Everything you name it - still-awaiting capital inflow from the Mainland, solid local and Mainland economic outlook, good atmosphere - contributes to the recent rally. If my prediction on interest rate increase is correct, it might hurt the local growing economy but not very much. Spending a bit (Hong Kong guys are very low leveraged on credit card loans), investment a bit but in overall terms, the economic impact of an 25 b.p. increase should be minimal.
Conceptually, interest rate increase hurt the real estate developers twice - interest expenses increase and the value of the saleable flats decreases, while for most other companies, only the first impact matters. So pay attention to certain highly debted HSI constituents such as New Word Development (0017.hk, Debt to Asset > 20%), Whampoo Hutchison (0013.hk, 0.09 EBIT to Interest Expense last year), CX airline (0293.hk, Debt to Asset > 30%), CK Infrastructure (1038.hk), and avoid property developers with heavy local development. All have very low EBIT to Interes Exp ratio (ratio lower than 1 implies that it's earnings cannot pay interests were there no such below line items like ExtraOrdinary Items and tax arrangements).
Investors should also pay attention to smaller companies that are highly leveraged. On the other hand, Internal demand driven China-related companies should be less sensitive to interest-rate of Hong Kong, though the value of all assets is negatively related to interest rate.
