Morning Mumble: Debt overhang (Negative Equity) and...GMD, Copper and ESG, the decline continues.

Good Morning,

China's banks have been reviewing the impact of declining house prices and risk of a debt overhang (negative equity), occurring in 'most cities ' (66/70) in China. Obviously, this will include syndicated loads to property developers and the probability of repayment or perhaps rolling over of loans/obligations. 

With new builds down circa 22% and new land purchases by registered developers, approaching a 40% decline year on year. The impact to the 'average' earning Chinese worker is significant, and is being felt across all of China. Whether Migrant workers, steel-makers, factory workers including those in equipment and machine manufacturers, none are exempt from the downside is slower growth. This contagion has already started to happen with a decline in factory output, and laying off of personnel. Today's flash PMI HSBC data confirms this (compiled my Markit).

Without further intervention, albeit, what else can the Chinese Government do, as they have reduced interest rates, relaxed borrowing requirements and eased property ownership rules. Save for further bailouts like those of Evergrande Real Estate Group (HKG: 3333), the developers are up the creek without a paddle. Same for Local Governments, whom were previously reliant on land sales and sales taxation revenue, all now significantly lower with the possibility of council tax/property taxation being considered to make up the short-falls in budgets. 

The Chinese Government have put a band-aid on a shark bite with the Chinese loan facilities extended to Evergrande (Circa$16B). With debts approaching $31.8B (EMC figures inc. perpetual bonds $7B approx.*) and revenues in decline, Evergrande's woes have only been delayed the inevitable, save for 'further stimulus'. 

Evergrande can make space for a Ghost Cities segment in their reporting? Or delayed developments? At what stage is the button pressed on a rights issue (to the Chinese Government or asset sales similar steel mills?) to scrub the debt off Chinese Property developers books. This will of course continue the perverse bull run on their stock prices, despite the sector running above 90+% net debt (average) across the industry and by a recent reports over the 120-130% debt to equity (EMC) estimates. 

Citron Research, had a view, "that Evergrande was insolvent and had consistently presented fraudulent information to the investing public." The Securities and Fraud Commission in Hong Kong has an on-going misconduct case against Citron. This started last Wednesday (18 March 2015), due to be finalised sometime beginning of March 2016 (yes 4 years later) on or around 6 March 2015. It would be wise to update ones diary on the tribunal. Although Citron's commentary hasn't always been blinding, but it is certainly worth considering the views of the short seller. Sometimes catching the mighty Deloitte on the back foot!

Today's mumble was delayed due to the requirements of Game Digital (GMD), with Benedict Smith (CFO) stepping down after lengthy 26 months in the position after dire  interim results.. With a decline in first half profits, (the company already sign posted in January), it’s no surprise the stocks on the tank (again), and any recovery in the SP from January was totally unjustified. The market is competitive, with delivery available next day for those wanting to trim their purchase price further. 

The entire gaming industry is suffering the woes of a lack of 'new' blockbuster games enticing the loyal followers to part with their cash. Margins squeezed on near the same revenue, although digital/online sales should provide some support. At anything above 200 pence, one finds the price very hard to justify. EMC remains negative on HOME and GMD as per the January commentary.. Although it’s wise to bank profits in the latter on the news today. From a technical perspective, can GMD hold 240 pence...

Copper had a brief recover, going to $6000/t ($2.72+/lb.) and now at $2.795/lb ($6160/t) despite the weak Chinese data, one assumes the market has spotted the Chinese trades as well and the rush to cover short positions on the dollar strength. The bets are on copper for Chinese stimulus and national grid developments...for now.

Reviewing the AGM announcements for ESG (Eserveglobal) it was a timely reminder for EMC's commentary on CFO Stephen Blundell flipping his options. The EMC was subject to criticism from certain parties. With threats of reports to the FCA for market manipulation 'based' on the EMC view of Stephen Blundell's director share sale and that of Investec's, being an indicator of what is to come. 

ESG shareholders and the board consider it prudent to appoint Stephen Blundell as the Chief Operating Officer. If the gossip is correct, Stephen Blundell has put himself forward for the permanent CEO position, where he is currently "interim" CEO as a result of Mr Paolo Montessori's resignation. The AGM statement, for those who have missed it. One would find it hard to criticise a share sale where the stock performance has been positive. 

GATE ventures watch, circa 12% down, 'ramp-fabulous!' With some significant rumour flying round about Oxus (OXS), its wise to avoid further commentary until the result of the arbitration and the Jerooy Mine update. A reminder for those getting carried away, the Prime minister Joomart Otorbayev of Kyrgyzstan warned back in January that "Each prospective investor [for Jerooy] should be warned of additional legal costs."

Atb Fraser

PM Bolt On: Chinese Property the shadow of valuations, and a scatty walk through Chinese economics.

Good Evening, 

The EMC and various traders/parties have been batting a few (add-on) ideas around for a while and coming to firmer conclusions today. A summary with suggestions about the distortion and inaccuracies in the  property data in China. Today's discussions drew similarities between Spain and China in separate discussions.

The consensus being that the measure for house prices is warped, stalling more than the Chinese official data implied. With what can only be described as greater downside risk than 2009 (comparative point). Revenues in the form of company turnover and taxation have all fallen, save for some clever accounting, it’s a sector in decline. 

Any Chinese analysis always has a caveat of government intervention (the stimulus), including the possibility of social housing schemes (large scale) being introduced by the Chinese Government or 101%+ mortgages. The sales incentives on the property sales should be discounted out of the price achieved and disclosed to Government data and revenue collectors. The incentives only serve to distort the figures that should have a greater impact than the ones announced.

Margins have been squeezed, with developers failing to incentivize buyers, whether for speculation or their own home. The Government has increased the liquidity, reduced the down payment criteria and loosened the first home-buyer entitlements to include those that had previously owned. 

With the Chinese Government slowly running out of options to stimulate the economy at a local government level, expect to hear more about western investment in Chinese public-private partnerships (PPP), reducing the burden in the short-term on local governments.

So with banks having a biased interest in prices being maintained and how the value is carried on the books against their reserve requirement ratios (RRR). We're bordering on a Spanish manipulation of the housing market by the banks, with an arm’s length consent by the Chinese Government. Any drop of more than 6% year on year leaves the Chinese banks being forced to make drastic cuts to their balance sheets. Alternatively, the Government reducing the RRR requirements further to allow for greater flexibility.

There's a glut of property inventory out there, both commercial and residential, those Irish property speculators will be all too familiar with and wary of. Although China is far from at the extreme of the Irish property contagion, it does have resounding similarities such as excessive supply, unrealistic balance sheet valuations, overly expectant prices and the minor problem of evaporating demand. 

The lower income, like most economies, are the drivers in China and the transfer of wealth between state and comrades is slowing and potentially contracting. PPP could just be China’s saviour to avoid a property contagion and at least meet more realistic growth targets in the short-term whilst international expectations are reset.

Whilst remembering the caveat "without further stimulus", Li and I, have been working on some modelling for the Chinese property sector. (worse for commercial property). We'll exclude the likes of the equivalent Chelsea areas within Shanghai（上海), Shenzhen, Guangdong Province（广东深圳）, Beijing（北京）and Sanya, Hainan Province（海南三亚） (EMC has gone international with copy and paste; we hope Li's versions are not offensive!). 

The EMC is off the fence and a depression and/or staling in property prices until 2017 and perhaps beyond. This of course depends on how the economics of China pan out and how the Chinese Government motivate the economy re: PPP. With factory gate prices, earnings and raw materials all under pressure, this could extend beyond 2017 and as far as 2020 before a realistic growth story sets in. There's a risk of a property contraction year on year for near 3 years, with restricted growth their after. 

The contraction in financing is being noticed by the traders, save for the larger houses whom have internal liquidity and government cheques. A limited example being the Chinese purchases of gold, down circa 30%, copper, iron ore and coal. The property woes are being exacerbated by the contraction in financial liquidity (within China and externally) for speculation.

It implies the RRR of most of the major Chinese banks is questionable with balance sheet valuations ignoring the obvious elements of the economy…or are they, as speculators disappear?? It’s not going unnoticed that Chinese companies are refocusing on international property portfolios (the hedge) like Japan in yesteryear.

In part, the commodities have depreciated as the Chinese were incapable of tapping yet more finance for leveraged speculation (after significant loses), this has a knock on effect throughout China. It would be wise to consider the Chinese milk crash, which is unfolding as we sip our coffee, the pork crash that didn't appreciate during Chinese New Year (historically appreciating). Those Pork Riblets, Semi-Meaty have a greater margin if exported to the Congo now, we'll ignore the political issues some miners should be disclosing.

When considering how weighted the Chinese economy is reliant on the property sector, its concerning no action has been taken. The lack of taxation revenues both centrally and locally is having an impact. Various measures are likely but property taxation will have to be utilised to plug a gaping hole in the local government budgets bolting on to PPP. This will further kick property developers as those speculators derisk their "investments" as the asset becomes a greater liability. As such, China, although further from negative interest rates than most, could be more reliant than any central bank on these measures.

We acknowledge that China's property taxation model is dependent on building, with low cost ownership currently the norm. The property taxation and revenue model will have to be rebalanced, with an equilibrium applied to existing home taxation plus a new homes sales tax. The Local Government debt has grown disproportionately to the decline in property taxation revenues, and the lack of growth, contradicting the desire to “urbanise.”

The rolling up of local government debt will have to be answered sooner rather than later. It would be wise to reset the expectations of Chinese growth to 4.5% now to iron out these problems, rather than anything near the 7% the analysts think sensible. 

There's implications for demand on all base metals and resources excluding oil and gas, and water. More time is required to explain the latter three with China as a consumer and space required to validate the statement. Sweeping statement perhaps, but not without good reason. 

Atb Fraser.

Morning Mumble: Chinese Property Bonds &....wonder will never cease, oil revisions downwards.

China's overseas property investment to reach $20 bln in 2015-study As Kaisa defaults, Goldman sees value in the property builders. The property slowdown is forcing the insurers and larger Chinese developers to diversify their holdings to an international hedge. Its wise to consider this the top of the property cycle as the leverage is unlikely to be paid with internal growth faltering.

Li put it simply , "there's just so much on the market a buyer is being deterred from the off ings". Li I am sure meant offerings but you get the idea. Li's been tracking the property market since the clamp down on corruption in China and the charts are staggering, dropping almost identically from 18 March 2013 to today. Surely the Chinese housing situation isn't directly linked to corruption that the dropped started 4 days after Xi Jinping became president?!

Today, Royal Dutch Shell (RDSA) announced there 4th Quarter and Full Year 2014 Unaudited Results and with it a very logical  update balancing growth and returns to address the sector issues they are experiencing was the license to print money for those short on the news. RDSA's prudence in their sales was more fortune than well-timed divestments. 

RDSA buybacks are scrapped (wisely) the investors (long only) are now the ones to take the pain, with earnings significantly under pressure and limited further divestments, I have to wonder if RDSA will be on the acquisition trail very soon, there is some very well-placed gossip of a very large acquisition. Over to UBS to get the ball rolling. Over to the Industrial Engineering components to react appropriately. 

Glencore (GLEN) appear to not know what to do with their coal operations. Glencore considers cuts at South Africa coal unit Optimum, having tried closing its Australian operations for 3 weeks, why did they bother opening it again? Now they're considering South Africa (RSA). 

GLENs asset classes should be considered tier 2. Over to GLEN to meander through with an inconsistent strategy. Had GLEN had the understanding of the market like they should do, the only benefit was to the short-term price where as soon as the news of the restart came the price gave up any support. We'll blame China for the thermal coal prices, rather than the entire change in global demand. The one saviour may be that RSA could be compelled to buy / take these struggling assets off miners hands to shore up the ailing economy, with the Rand like to depreciate further there's going to be a few bargains*.

For those whom dislike the shorters, they'd be wise to check the prices of PDL (Petra Diamonds) and Gem Diamonds (GEMD), the market has awoken to the fact the sale of Antwerp Diamond Bank to a Real Estate company (Yinren Group) didn't go as planned (a year ago). 

Of great significance, Shanghai, Hong Kong shares fall as China launches new probe into margin trading China Securities Regulatory Commission (CSRC) perhaps have found something in the alleged routine checks. 

Kaz Minerals Q4 production report from Roger Bade gets the chocolate teapot award. For myself, you'd be rude if you didn't agree there is no guidance on currency or costs. The market has to look over its shoulder at the all in net cash costs of $2.04/lb (not all in costs circa $2.75/lb EMC estimate) of the interims last August. With prices stabilising and likely to appreciate over the next 12 months, save for more economic woes and the Greek issues, plus Bozshakol Copper Project and Aktogay Copper Mine coming on stream there should be an element of knife catching now. 

Kaz's debts should not be ignored with the Chinese Development Bank (CDB) funding there's room for discussions. Kaz location to China is obviously strategic for both parties, time to start considering the positives.

Atb Fraser

Morning Mumble: Naibu (NBU), Iron Ore & Anglo Pacific & JKX + Pawnstars

Naibu (NBU) NED's request the suspension of trading in the company's shares. If this is what I think it is, it comes as no surprise. For those more versed in such matters the rocket science of Li Ning's struggles represent the issues. China's Li Ning warns of third straight yearly loss, outlook upbeat. Having closed my shorts out the other day, was I premature. I suspect so...but it would be rude if I started complaining. CamKids isn't suspended is it?

It was hoped today there would be time to share some Housing issues that are coming in the UK. Persimmon based on values and the glut First Time Buyers really needing a review based on a number of factors including First Time Buyers, however it'll have to wait as most are now in action.

Anglo Pacific Group (APF) PLC Trading Update is with no surprise, the lack of enticing assets and the returns that are dire. With jam being implied the dividend may provide some support when DRIP (Dividend Re-Investment Plan) or SCRIP is applied. Unless something materially changes in the asset base or an acquisition of a decent size is made the dividend will start to look expensive in terms of risk. Kestrel appears to be the only saviour here....and that's "anticipated" and far from in the bag. 

APF with the usual excuses about the commodities market, if one had superior assets even in dire markets the returns are assured. The inferred big deal appears to now be never coming, with limited funds, and a question over whom in this market would support the financing for a larger deal, its not for widows or orphans. Expect APF to give up some of it's more recent gains.

Iron Ore is being bounced around in my inbox with most whom disagreed with common-sense however long ago now surprisingly having a sniff of reality. This morning I was sent this through (Cheers AV) CHARTS: Iron ore price won't withstand 2015 supply flood. With their views only 10% lower than mine (currently), albeit disagree with their views on Copper and so would the market with a near 7% drop in the last month. 

With the Chinese returning to speculation (one assumes  this time with Chinese finance instead of STAN's / Citi's :-)) Copper could have some support...but for how long with  Kaisa's missing a payment . Anyone for a Government initiative for social housing? Anyone for a high risk punt on discounted property bonds? The smaller companies appear to be impacted more so...gaining short exposure is difficult though. With little takers for iron ore futures further out, prices are likely to come under further pressure. 

JKX (JKX) Oil & Gas PLC announce Elizavetovskoye Production Update which I suspect will be on deaf ears. The Ukraine has not been forgotten not the limited upside until the issues in the region are resolved. One suspects Putin's weather doll for a severe cold snap to improve his position has taken a vacation. 

H&T Group PLC (HAT) Trading Statement is a positive, with some jitters in the market it should be seen as a positively for the Pawnbroker. With Albemarle & Bond (ABM), being the short and the competition across the sector being seen as a positive, HAT are in a position to acquire and grow from strength to strength. Net Debt down, an acknowledgement of need for a retail focus has started to reward them. There's a number of ways HAT could improve their margins, however that's for them to work out. It's a long not without risks, especially with welfare reform, something to consider for all higher cost lenders, albeit HAT do have the pledge. The downside is, with limited upside on the current SP save for a buyout (or extraordinary event) its not that appealing.

Some shipping watch showing the dire state of the industry for dry goods. Around $70m is at stake for Jinhui Shipping following protracted commercial disputes with Grand China Logistics (GCL) and Parakou Shipping. With losses racking up for Jinhui...

Atb Fraser