summary
The manufacturing PMI in China and the United States in March unexpectedly returned to the expansion range in sync, rekindling the market's discussion of the repair of the global manufacturing industry. However, is the current manufacturing repair the beginning of a new cycle? Is there liquidity and emotion-driven front-running and noise in the rise of bulk resources? To answer these questions, the key is to locate the position and driving factors of the current round of global manufacturing and inventory cycle, which will also determine the main line of trading in the coming period.
On the whole, the current repair and replenishment of the manufacturing industry dominated by the United States and the resulting improvement in China's export orders are all due to the sharp decline in the interest rate and financial conditions of the US Treasury in the early stage, and the opening of a more sustainable new cycle still depends on the re-start of the credit cycle, which is based on the Fed's interest rate cut. The current expectation of improved data and the rise in resource prices due to market rushes will delay interest rate cuts and tighten credit conditions, which will lead to a return to last year's "turnaround run", and we cannot rule out that we will gradually see the impact of the current return to higher interest rates and financial conditions in the coming months.
From the perspective of assets, the direction of the current transaction cannot be miscalculated, but there is a risk of front-running too early, and there is pressure to take back if it is too strong. At the current level of inflation, the continuous upward movement of the stock market and bulk resources needs to be premised on the decline of U.S. bond interest rates, otherwise it will be suppressed by tight money and high interest rates.
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April outlook: Bulk resources led the rally, reflation trade heats up, China-US PMI unexpectedly expanded, did the global manufacturing and replenishment cycle begin?
The manufacturing PMI in China and the United States in March unexpectedly returned to the expansion range in sync, which seemed to rekindle the market's discussion of the global manufacturing repair overnight. The sharp rebound in the US manufacturing PMI production and new orders sub-items, the expansion of non-farm manufacturing employment, the new export orders of China's PMI, and the strengthening of export data from China, Japan, South Korea and Vietnam all seem to indicate a gradual recovery in global demand. Assets are also reflecting this expectation, throughout March, in addition to Bitcoin and gold, bulk resources such as copper and oil led the global rally, U.S. Treasury interest rates rose, and interest rate cut expectations were postponed, all of which were related to the expected global manufacturing repair and reflation transactions under the start of a new round of replenishment cycle.
Chart: In March, under the US dollar, the major asset classes were classified as bulk > stocks > bonds, with Bitcoin, gold, and Taiwan's TAIEX leading the way, while natural gas, the United States, and Brazil's IBOVSPA lagged behind
Source: Bloomberg, FactSet, CICC Research
Chart: Price performance of major overseas assets in March
Source: Bloomberg, FactSet, CICC Research
Chart: Gold, agricultural commodities, copper and crude oil rose sharply in March
Source: Bloomberg, Haver, CICC Research
However, is the current repair of the manufacturing industry in China and the United States another "flash in the pan" like last September, or the beginning of a new cycle? Is there fundamental support for the rise in bulk resource goods, or is it more of a liquidity and emotion-driven rush and noise? To answer these questions, the key is to locate the position and driving factors of the current round of global manufacturing and inventory cycle, which will also determine the main line of trading in the coming period, after all, "interest rates fall→ demand temporarily improves→ interest rates rise→ demand falls again" The switchback run has been staged more than once in the last year. In this article, we will observe the current situation and prospects of the global manufacturing industry through multiple dimensions such as inventory, commodity consumption, and equipment investment demand, and make an outlook for the subsequent asset trend.
On the whole, the current repair and replenishment of the manufacturing industry dominated by the United States and the resulting improvement in China's export orders are all due to the sharp decline in the interest rate and financial conditions of the U.S. Treasury in the early stage, but the opening of a more sustained new cycle still depends on the re-launch of the credit cycle, which is based on the Fed's interest rate cut. But the paradox is that the current expectation of improved data and the rise in resource prices due to market rushes will delay interest rate cuts and tighten credit conditions, which in turn will lead to a return to last year's "turnaround run", and we cannot rule out the impact of the current re-rise in interest rates and financial conditions in the coming months.
From first principles, the credit cycle remains central. As long as the credit cycle is suppressed, the general direction of growth, inflation and interest rate declines, and the start of interest rate cuts is determined, and vice versa, but in this year's election year, too many "turnbacks" will cause the policy window to become narrower and narrower ("Stocks and Bonds Rise in Bulk, Who Is "Wrong"). From the perspective of assets, the direction of the current transaction cannot be miscalculated, but there is a risk of front-running too early, and there is pressure to take back if it is too strong. At the current level of inflation, the continuous upward movement of the stock market and bulk resources needs to be premised on the fall of U.S. bond interest rates, otherwise it will be suppressed by tight money and high interest rates, so bonds have pressure to rise, but the cost performance is higher than that of the stock market and commodities, first debt and then stocks and then bulk ("The Three Pillars of the Current U.S. Stock Bull Market").
1. Why is the global manufacturing PMI rising? Short-term broad financial conditions are loose + the private sector has a relatively healthy balance sheet
The global manufacturing PMI rose to 50.6 in March, rising for the third consecutive month, with major countries and regions rising to varying degrees, and more than half of the PMIs were in the expansion range. Among them, the US manufacturing PMI rebounded into expansion territory for the first time since September 2022, and China for the first time since September 2023. However, considering that the main driver of the rebound in China's PMI is new export orders, it can also be seen as an extension of overseas manufacturing demand.
Chart: The manufacturing industry in major countries and regions grew significantly in March, with more than half of the PMIs in the expansion range
Source: Bloomberg, CICC Research
Chart: U.S. manufacturing PMIs, new orders, output and prices rebounded in March
Source: Bloomberg, Haver, CICC Research
Chart: US and Chinese manufacturing PMIs rebounded to expansion territory in March
Source: Bloomberg, Haver, CICC Research
The upward trend in global PMIs was supported by a recovery in demand, a recovery in prices, and easing shipping pressures, with the new orders-to-inventory ratio rising to 1.04, the highest since May 2022. The improvement in demand was largely due to the short-term broad-based easing of financial conditions and the relatively healthy balance sheets of the private sector, which led to the rapid release of easing in financial conditions. Guided by the expectation that the Fed will stop raising interest rates and start cutting interest rates, the 10-year Treasury interest rate has fallen rapidly from a high of 5% in October last year to 3.8% at the beginning of this year, and the Chicago Fed Financial Conditions Index has also dropped from -0.32 in October 2023 to -0.51 currently, specifically:
1) The rapid decline in U.S. bond interest rates has led to the recovery of some real estate demand. Although the market's expectations for the Fed's interest rate cut have been revised recently, the rapid decline in the previous US Treasury interest rate has led to a decline in the home mortgage rate, with the 30-year mortgage rate falling from a high of 7.8% at the end of October 2023 to 6.6% in mid-January 2024, which is lower than the average rental return of 7%, which has promoted the resurgence of real estate demand, which in turn supports the consumption of related durable goods. Existing home sales in the United States warmed up from January to February, with the number of seasonally adjusted years rising from a low of 3.85 million units in October last year to 4.38 million units in February, and the median price rose from $381,000 in December last year to $384,000 in February.
2) Bank credit standards also began to loosen marginally in the fourth quarter of 2023. Although it is still in a state of tightening, it has nearly loosened marginally from the high point in the third quarter of last year, with the proportion of net tightening of commercial mortgage lending standards for the residential sector in the United States falling sharply from 67.2% in the third quarter of last year to 42.4% in the fourth quarter of last year, and the net tightening of development loan standards for the corporate sector from 64.9% to 39.7% in the fourth quarter of last year. The relatively low level of leverage in the private sector, coupled with the relaxation of corporate credit standards and the rising willingness to issue mortgage loans and consumer loans to residents, has led to a recovery in credit expansion.
3) The wealth effect of the surge in U.S. stocks has also supported residents' spending power, with the S&P 500 up 26% since November last year, and the Nasdaq index up nearly 30%. As of the end of the third quarter of 2023, U.S. residents held more than 30% of stocks and mutual funds, so the support of the wealth effect on consumption cannot be ignored.
Chart: Financial conditions have improved marginally since November last year
Source: Bloomberg, Haver, CICC Research
Chart: Interest rate cuts since November have driven loose financial conditions and lower mortgage rates
Source: Haver, CICC Research
Chart: Falling property financing costs since November last year drove a rebound in existing home sales in January-February this year
Source: Haver, CICC Research
Second, what is the stamina for further improvement? At the bottom of the cycle, the inventory depletion is nearing the end, but continuous improvement requires the opening of the credit cycle, and the market is in a rush
We believe that after nearly three years of decline, the global manufacturing and inventory cycle is in the bottoming stage of the cycle, but there is a certain degree of front-running, whether it is based on the restart of the residential real estate cycle after the Fed cut interest rates, or the expectation of a new round of fiscal expansion in the United States after the election, it may not be fulfilled so quickly, on the contrary, the current optimistic expectations will further delay the arrival of this process. Specifically:
1) The year-on-year growth rate of nominal inventories rebounded, but the actual inventories are still falling, and the inventory-to-sales ratio is still at a high level. Overall, the year-on-year growth rate of nominal inventories in the United States has rebounded for three consecutive months from December last year to February this year, but the year-on-year growth rate of real inventories is still falling, while PPI has stabilized since the second half of 2023, and oil prices contributed 1.6% year-on-year in February 2024, the largest increase since September 2023, indicating that price factors are the main driving force for the year-on-year growth rate of nominal inventories. We estimate that the actual inventory destocking phase may continue until the middle of the second quarter.
The inventory-to-sales ratio is high, so the cycle restart still depends on the demand signal. Some inventory-related indicators have been low, but if there is a lack of demand momentum, there is still a time lag between low inventory and inventory recovery, and the overall inventory-to-sales ratio is still at a historical quantile high of 96.4%, and the historical quantile of the inventory-to-sales ratio of manufacturers and wholesalers is above 95%. In addition, the U.S. economy has shown a "rolling" recovery feature after the epidemic ("Global Market Outlook 2024: An Unavoidable Cycle"), and there are also certain differences in the inventory depletion situation in each link. In terms of links, the pressure on manufacturers to go to the warehouse has not been large, and we expect that the replenishment is not obvious; wholesalers have been replenishing the warehouse quickly and in a high scale, and most industries are still in the stage of destocking; among the retailers, the furniture/home appliances/electronics/home appliances, building materials/garden supplies, and department stores related to the real estate cycle have started to replenish the warehouse, which is consistent with the recovery of demand from the residential sector under the easing of financial conditions. We expect that the current round of inventory cycle will be relatively limited even if it is opened, but real estate-related inventory may be the first to start, which will also help boost China's related export demand.
Chart: The year-on-year growth rate of real inventories in the United States is still declining
Source: Haver, CICC Research
Chart: The actual inventory-to-sales ratio of the United States is still at a historically high level
Source: Haver, CICC Research
Chart: From the perspective of links, wholesalers are still going to the warehouse, and manufacturers are not obvious to the warehouse, so the replenishment efforts are also weak
Source: Haver, CICC Research
Chart: The year-on-year growth rate of retailers' real inventories rebounded from the middle of last year, but fell marginally in January this year
Source: Haver, CICC Research
Chart: In terms of links, the inventory-to-sales ratio of manufacturers and wholesalers is still above the historical quantile of more than 95%, and the inventory-to-sales ratio of retailers is relatively low
Source: Haver, CICC Research
Chart: We estimate that the US actual inventory destocking phase will continue until mid-Q2
Source: Haver, CICC Research
Chart: Real estate-related inventory sales are relatively low, and replenishment may be the first to start, which will help boost China's related export demand
Source: Haver, CICC Research
Chart: U.S. manufacturers have not been able to replenish and destock before, so the demand for subsequent replenishment is relatively limited
Source: Haver, CICC Research
Chart: U.S. wholesalers have previously replenished more inventory, so most industries are still in the process of destocking
Source: Haver, CICC Research
Chart: U.S. retailers, except auto and parts, saw a slight slowdown in January this year after the year-on-year growth rate of real inventories in all sectors except automobiles and parts
Source: Haver, CICC Research
2) The demand for real estate and commodity consumption is difficult to match after the epidemic. The demand side is driven by the consumption of goods in the household sector and the investment of non-financial enterprises. Commodity consumption took the lead in recovering after the fiscal subsidy in mid-2020, but began to slow down in 2021, and with the liberalization of the post-epidemic consumption scene, the relay of service consumption in 2022 has become dominant, and there are signs of weakening recently. The demand for real estate and durable goods has been at the bottom for nearly two years due to the high interest rate environment, and it is expected to restart once financial conditions loosen, which is also the market's expectation. However, the intensity of the current round of recovery is not comparable to that of the post-pandemic period, mainly constrained by income, excess savings and high housing prices. Overall wage income is slowing (from 4.3% y-o-y to 4.1% in March), and we estimate that about $730 billion of excess savings will be depleted in the second half of the year. In addition, the existing home price index is currently at a record high since 2000, and the home affordability index is at a low level since 2006, so it will also constrain some of the ability to buy a home.
Chart: The U.S. economy has shown a "rolling" recovery after the pandemic
Source: CICC Research
The demand for equipment investment is supported by policies, but the scale is limited. There is a view that the opening of the current round of the global manufacturing cycle depends on the promotion of non-financial corporate investment by manufacturing reshoring and supply chain restructuring under policy factors. However, by observing the data of macro investment and corporate capital expenditure, we find that the reindustrialization of the United States is highly structured, which is reflected in the slowdown of overall investment expenditure, and only in some industries such as electronic and electrical, semiconductor, machinery, etc. ("Restructuring of the U.S. Industrial Chain from the Perspective of Investment"), so although driven by relevant policies, the fixed asset investment of the private sector in some industries may gradually shift from construction investment to equipment investment, which is good for manufacturing demand, but the scope and scale are relatively limited. We estimate that private sector equipment investment (US$1.2 trillion) accounts for 38% of non-residential fixed asset investment, of which 30% (computers, etc.) is related to re-industrialization policy support, and therefore accounts for 11% of total non-residential fixed asset investment.
3) From the perspective of the credit cycle, the fundamental driving force for the recovery of the global manufacturing cycle comes from the re-expansion of the credit cycle after interest rate cuts, but it faces the reflexivity of expected front-running in the short term. Since the fourth quarter of last year, financial conditions have eased, and the proportion of banks in Europe and the United States that have tightened lending standards for non-financial companies has continued to decline. However, the trend of interest rates and financial conditions is reflexive, and a rapid decline in interest rates will activate demand in advance, which will constrain the space for subsequent interest rate cuts and interest rate declines.
In addition, the new round of stimulus after the US election will also need to wait for some time for the government to increase leverage, and the strength remains to be seen. Since the U.S. fiscal year begins in October every year, the impact of a new president taking office will not be felt until October 2025, let alone facing the debt ceiling again in February 2025. The CBO recently lowered its fiscal deficit forecast for this year to 5.3% from 5.8%, a contraction of 1 percentage point from 6.3% last year. This also reflects the current market's front-running expectations for the future.
Allocation suggestions: debt first and then stocks, then bulk; U.S. bonds are more cost-effective, and the golden time is limited, so U.S. stocks pay attention to the impact of the inflection point of financial liquidity in the second quarter
We believe there are three main threads behind the recent chaotic asset performance: Bitcoin, gold and copper driven by abundant liquidity, interest rates, equities and gold driven by expectations of interest rate cuts, and copper and oil driven by improving demand and secondary inflation expectations. The recent reflation and resource trading rush has allowed the bulk leaders to outperform bonds, but this front-running will instead shake the foundation of the rally. Therefore, we suggest that bonds are more cost-effective at present, and U.S. stocks are better after facing certain twists and turns, gold has limited space after the preemption, and can be re-intervened after the pullback, and copper and oil driven by reinflation are also preemptive, and demand will improve after interest rate cuts.
► U.S. bonds: There is still a definite opportunity before the start of interest rate cuts, first long-term bonds and then short-term bonds, but the magnitude and time may not be very large, from 4.3% to about 3.5-3.8%, and the transaction will basically end after one interest rate cut. After experiencing the "turnback run" of U.S. bond interest rates, it is also a good window period to gradually rearrange the Fed's interest rate cut expectations, as long as the direction of interest rate cuts is clear. In addition, according to the U.S. Treasury Department's bond issuance plan, not only did the net issuance of short-term bonds turn negative in the second quarter, but the total bond issuance also fell from US$760 billion to US$202 billion, which may significantly slow down the supply-side constraints on the continued upward movement of U.S. bonds. Admittedly, the recent strong data will delay this process, if the rate is cut in June/July, the trading window will be before the rate cut, and because the rate cut will not be very large, and the fundamentals are also resilient, it may gradually end after the rate cut opens.
► U.S. stocks: Pay attention to the impact of the inflection point of financial liquidity in the second quarter, and re-intervene after fluctuations. U.S. stocks have a good correlation with financial liquidity indicators. According to our calculations, in the second quarter, due to the slowdown in the tax payment of fiscal deposits and the decline in reverse repo, an inflection point may occur. But for the whole year, we are not pessimistic about U.S. stocks. Under the baseline assumption of a soft landing for the economy, U.S. stocks may switch from the current denominator logic to the numerator logic after the interest rate cut, and the economic fundamentals will drive the U.S. stock market to rebound again.
► Gold: A reasonable pivot of $2200-2300 per ounce, the space is limited and the time is still there, you can hold it but it is not recommended to chase higher. Based on our estimate of the real interest rate of 1%~1.5 (the nominal interest rate pivot minus 2~2.5% inflation expectations) and the US dollar index of 102~106, the reasonable pivot for gold is $2200-2300 per ounce. Gold is currently trading above the target level, diverging from the US dollar and real interest rates, with limited space but still there, until the end of the rate cut starts once or twice.
Chart: Gold prices are currently above the level that the model can support, space is limited and time is still there, and it can be held but it is not recommended to chase higher
Source: Bloomberg, CICC Research
Chart: Gold is a reasonable pivot of $2200-2300 per ounce
Source: Bloomberg, CICC Research
► US dollar: The interest rate cut is expected to weaken in the previous stage, but it may be strong overall, with a point of 102~106. This round of monetary policy easing is peculiar, and its significance is that it is not the easing caused by the US recession, but more likely to come from precautionary interest rate cuts, which also means that monetary policy is not a reason for the weakening of the dollar. In addition, due to the worse economic fundamentals in this round, we believe that the ECB may cut interest rates more than the United States, which may lead to a phased weakening of the dollar, but the overall strength is still strong.
March review: Liquidity, reflation and rate cut trades are intertwined, with gold and resources leading the gains
At the beginning of March, the ISM manufacturing and services PMIs in the United States in February were 47.8 and 52.6, respectively, lower than expected, and the non-farm unemployment rate in February exceeded expectations by 3.9%, and hourly wages rose by 0.1% month-on-month, which was less than expected. And Powell's statement that he would not cut interest rates until inflation reaches 2% was slightly dovish[1]. These factors triggered the US Treasury interest rate to fall back below 4.1%, and gold prices jumped 5%. However, the performance of U.S. stocks fell slightly on the back of the heavyweight Tesla. In the middle of the month, the US CPI and core CPI in February exceeded expectations by 3.2% and 3.8% year-on-year respectively, and the PPI exceeded expectations by 1.6% year-on-year, driving the US Treasury interest rate to rise above 4.3%, and US stocks fell slightly by 0.1%. However, the March FOMC dot plot kept the expectation of three interest rate cuts this year unchanged, which was more dovish than market expectations, driving the US Treasury rate back to 4.2%. U.S. stocks were affected by the launch of a new generation of GPUs at Nvidia's GTC conference, and the semiconductor sector led to the overall rise of U.S. stocks. The rest of the assets, such as copper, oil and other commodities, rose higher this month in anticipation of reflation and improved demand. Bitcoin and others benefited from the improvement of macro-financial liquidity in the first quarter, leading the gains. In Japan, Haruto's wages rose by 5.25%. The Bank of Japan (BOJ) raised its benchmark interest rate from -0.1% to 0-0.1%, and plans to continue bond purchases, cancel YCC, ETF and REITs purchases, and has not yet set a time for balance sheet reduction. The BOJ's move was in line with market expectations, and the better economic outlook drove Japanese stocks up 5.6%.
Overall, in March, 1) cross-asset: > stocks > bonds, 2) equity markets: both developed and emerging markets rose and developed stocks rose higher, developed mediums, MAAMNG and German stocks led the gains, emerging middle, Taiwan stocks and Korean stocks led the gains, 3) bond markets: bond markets generally rose, 4) exchange rates: the Australian dollar and the US dollar strengthened, the rest of the currencies weakened, 5) commodities: gold, soybeans led the gains, natural gas fell. In March, the Eurozone and Chinese economic surprise indices both rose, while the U.S. and Japanese economic surprise indices declined, and U.S. financial conditions eased. In terms of capital flows, inflows to the United States and Japan decelerate, outflows from developed Europe accelerated, and inflows from emerging markets and China slowed.
In March, the overseas asset allocation portfolio rose 2.0% (denominated in local currency), ahead of global equities (0.77%, MSCI World Index, denominated in USD), global bond markets (0.63%, Bank of America Merrill Lynch Global Bond Index, denominated in US dollars) and commodities (1.21%, S&P GSCI, denominated in US dollars). In terms of sub-items, U.S. stocks and emerging market equities contributed significantly, with VIX being the main drag. Since its inception in July 2016, the portfolio has accumulated a return of 127.8% with a Sharpe ratio of 2.2.
[1]https://wallstreetcn.com/articles/3712028
Article source:
This article is excerpted from: "Has the Global Manufacturing and Replenishment Cycle Started?Overseas Asset Allocation Monthly Report (2024-4)" released on April 7, 2024
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