China Metals Focus:China’s ‘old-economy’growth slowdown is already upon us

There is no need to wait for 2018 for China’s ‘old-economy’ to slow down: Thelatest data imply Chinese FAI and property sales will contract by c.1% and c.10%y/y during 1H18, respectively, should recent run rates be maintained. Somewhatbalancing these bearish headline figures are the solid manufacturing PMIs both inChina and globally, and sequential improvement in private/manufacturing FAI inChina over the past two months, however the overall ‘metals-intensive’ China datalook soft.

    Near-term caution is warranted in our view: Though metals and related miningequities have already started to price the soft Chinese FAI and property data inrecent days, metals prices and LME speculative positioning remain at high levels,and we see further near-term downside as metals demand growth expectations pullback. Other near-term headwinds include the pollution crackdown which is set todrive a larger-than-normal seasonal slowdown in activity during the winter, as well apotential further unwind of CTA/machine length.

    However, China has substantial room for manoeuver to shore up ‘oldeconomy’growth, and seasonality will switch bullish post Chinese New Year:Since China’s ‘old-economy’ weakness is at least in part by ‘design’, there is roomto ease policy and support growth during 2018. Specifically, policy makers couldaccelerate infrastructure project development to support Infra FAI growth, and/orease property policies towards sales and/or new starts by easing some of thetightening measures (i.e. we believe that given China’s closed capital account thereis huge pent-up demand). Finally, China tends to increase credit sharply during the1Q, which could support demand and sentiment early in the calendar New Year.

    Our base case is that further weakness should present a buying opportunityfor 2018: Given that growth has already weakened significantly, our base case is atleast some of these policy tools will eventually be utilized, underpinned by the policyput explicitly in place to achieve the 2020 target of doubling per capita income.

    Supply is unlikely to be there to meet the demand pick-up: As Chinese demandpicks up post Chinese New Year, metals supply is likely to struggle to catch up,given the long lead times to building new metals production capacity, and lack ofinvestment in recent years. This is particularly the case for zinc and iron ore,where the latest data suggest that a Chinese supply response is not around thecorner, with FAI in iron ore and non-ferrous metals mining collapsing.

    The situation is fluid, and we are watching for any signs of China easing:Indeed, PBOC net issuance has risen sharply this week, which may be a sign ofpolicy support, though the PBOC issued a statement saying that this was to offsetother reductions in liquidity.