Ep. 6 Five Predictions for 2019, the Year of the Pig.
In this podcast, Jack gives his five predictions for 2019, the Year of the Pig, and reviews the accuracy of his predictions for 2018 with Doug Perkowski.
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Excerpt: “Well my dad once told me: “If you’re going to be a bear, be a grizzly.” I go into the 2019 predictions with a little bit of that in mind, because four of the five predictions in one way or another are related to the Trade War.” Listen or read on to find out more.
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EPISODE TRANSCRIPT
Doug: We’re kicking off 2019, and I know that everyone is looking forward to hearing some of the predictions that you have for China and the U.S.
Jack: That’s correct. Every year about this time, we make our predictions for the coming year. Before we do that, though, we do something a little bit differently than others who make predictions. Before we make our predictions for the New Year, we actually review the predictions we made a year before and analyze them to see how we’ve done.
I have made five predictions every year for the last 10 years. We grade ourselves on a grade of one to 20 for each partial or correct prediction. Granted, we’re grading our own paper, and people may disagree with the score we give, but we hope they at least give us credit for transparency. We find that it also helps to review the predictions for the last year, because it provides a very good review of what just happened in China, and oftentimes sets the stage for the coming year.
Doug: How long have you been doing this?
Jack: This is our 11th year. We have 10 years of predictions under our belt. They’re all listed and published, so anyone can go back and see not only the predictions that we’ve made, but then how we scored ourselves at the end of the year.
Doug: All right, let’s take a look at the 2018 predictions you made. Prediction #1: “After exceptionally strong growth in 2017, China’s exports to the United States will once again break records in 2018.”
Jack: Yes, that was the first prediction I made. The reason for making it was that the United States economy was doing better. The U.S. grew at 4.5 percent in the second quarter and had strong growth all year. Because China is such an integral part of the global economy today, and because so many companies have now set up their supply chains to the United States and other countries by locating factories in China, the exports from China to the United States tend to be a bit of a barometer on how the U.S. economy is doing. The better the U.S. economy does, the better exports from China ought to do.
Expecting a strong economy in the United States in 2018, we predicted that China would once again break new records and increase exports. In 2017, exports were up about nine percent, which is a pretty big percentage growth on $500 Billion trade with the US.
Doug: Beating the growth of the Chinese economy as a whole.
Jack: Yes, that’s correct.
Doug: Prediction #2: “China will maintain the value of the renminbi at approximately the current exchange rate of 6.5 to 1.0.”
Jack: As background, the RMB against the dollar has been a bit of a rollercoaster ride over the last couple years. The RMB was about 6.0 to 1.0 in the beginning of 2016. Then, Chinese companies went on an acquisition binge and started making a record number of overseas acquisitions. But, the negative side to this was that it led to a great deal of RMB leaving the country, so the RMB sold off to about 7.0 to 1.0 by the beginning of 2017. To prop up its currency, China had to spend about $1.0 trillion of its foreign currency reserves. It also began to restrict overseas acquisitions.
As a result, the RMB then began to appreciate, and by the first quarter of 2018, was trading at 6.3 to 1.0. Then the trade war between China and the United States started, which no one could have predicted at the beginning of the year and which caused a great deal of negative investor sentiment. The RMB then began to sell off and approached 7.0 to 1.0 once again. With the resumption of talks and the Trade War Truce, the RMB has strengthened and is now trading at about 6.8 to 1.0. Basically, I predicted that the RMB would remain stable at about 6.5 to 1.0. But, the Trade War intervened and caused China’s currency to go as low as 7.0 to 1.0 against the dollar.
Doug: How many points did you award yourself for that one?
Jack: On that one we gave ourselves zero. We should go back to Prediction #1. We did give ourselves full credit for that one. We got the full 20 points for Prediction #1, but Prediction #2 was a complete whiff.
Doug: All right, so Prediction #3: “In the face of strong export growth, China will continue to restrict overseas investment. As a result, overseas acquisitions by Chinese companies will be flat to down in 2018.”
Jack: Going back to what I said before, China had a very, very strong year as far as overseas acquisitions in 2016, which had a negative impact on the currency. The Chinese government spent a lot of money trying to keep the currency somewhat stable. At the beginning of the year, we did not see any signs that China was going to let up on that scenario. We felt that overseas acquisitions would continue to be restricted by China, and that they would be flat to down for the year. That’s exactly what happened in 2018. We don’t have the numbers for the full year because those tend to lag a bit, but they were down pretty substantially in the first half and into the third quarter.
On that prediction, we were not bashful about giving ourselves 20 points.
Doug: All right–two out of three. Prediction #3: “The situation with North Korea will come to a head in 2018, and China will play a constructive role, albeit behind the scenes, in the successful resolution of the crisis on the Korean Peninsula.”
Jack: If you go back to January 2018, the US and North Korea were at loggerheads. North Korea was firing missiles threatening Japan and was ramping up its nuclear program. Clearly, it was a situation that couldn’t last, and the Trump administration said that the ball had been kicked down the road for 20 plus, or 40 plus, years, but now the U.S. had to take action.
Behind the scenes, we felt strongly that China would weigh in because it has a large vested interest in having peace on the Korean Peninsula. China also wants to have a good relationship with the United States, and of all the countries in the world, China is probably the only country that Kim Jong Un can treat as a sounding board and that can give him the courage to go ahead and have talks with the U.S.
Sure enough, that’s what happened. Kim made at least three trips to Beijing in 2018. No one really knows what President Xi said to him, but I am sure that it was giving him reassurance, encouraging him to have talks with the United States. If nothing else, China and President Xi represented a friend in a world where Kim really doesn’t have many friends. As a result, we felt that China would play an important behind the scenes role in trying to facilitate discussions between the United States and North Korea.
Obviously, there’s a long way to go to have any kind of resolution with North Korea. But, a lot of positive things have happened. The missile tests have stopped; North Korea stopped launching missiles across the waters; and the remains of prisoners in North Korea—U.S. prisoners that were taken captive in the Korean War—have been returned. We believe that a lot of progress has been made, and believe that China played a very important, behind the scenes role.
Again, we took 20 points on this one. By the way, making a prediction about North Korea was a little bit out of our wheelhouse. Typically, we talk about the economy, the auto industry, the stock market, and any number of economic issues. But, we felt pretty strongly that North Korea would play out the way we had predicted
Doug: At the end of 2017, that was all anyone was thinking about.
Jack: That’s correct. There are broad implications for not only the US and North Korea, but also for China, Japan and a number of Asian countries. It was topmost on everybody’s mind. When we make these predictions, we try to figure out what the hot topics in the upcoming year will be.
Doug: All right, you gave yourself full marks for that one too, I believe.
Jack: We gave ourselves 20 points on that one.
Doug: Your fifth prediction was: “China will break the one million mark in sales of new energy vehicles, NEVs, in 2018.”
Jack: That’s exactly what happened. China actually ended up making and selling about 1.3 million new energy vehicles. When they say new energy vehicles, they mean not only electric vehicles, but they mean hybrids, fuel cells and so forth. It’s a broader definition than just electric vehicles. China has made a big push in the NEV space—it’s part of their five-year plan, and topmost in their industrial and auto policy. China has had very strong growth in EVs in each of the last three or four years, and we felt that that was going to continue. For 2018, NEV sales were up about 99 percent over 2017. Again, we take 20 points for that one.
Doug: That’s four out of five. Not too shabby.
Jack: When you add it up, we gave ourselves a full 20 points on four of them, and we had a complete miss on the one about the currency, so our score for 2018 was an 80. In the 10 years we’ve been doing this—2018 was the 10th year—-that was the third year in which we had an 80. We actually had one year where we had higher, about an 85. But, we had one year, 2011, when we scored a 43. We tend to be a hard-markers.
Doug: Now what everybody is waiting for—what do you have in store as far as predictions for 2019?
Jack: Well my dad once told me: “If you’re going to be a bear, be a grizzly.” I go into the 2019 predictions with a little bit of that in mind, because four of the five predictions in one way or another are related to the Trade War. Because again, in 2019, the key issue that is confronting everyone is: “What’s going to happen with this Trade War between China and the United States? Are we going to see an escalation? Is this going to continue? Or is it going to end?” Obviously, what happens with the Trade War has an important knock on effect to other parts of the economy; to the performance of the stock market; to the currency and so forth. If we get our first prediction right, which is about the Trade War, then we’re going to get 20 points on at least three of the other predictions.
Doug: All right, let’s take a look at them. Prediction #1: “The Trade War between the United States and China will be successfully resolved. While the issues between the two countries may not be resolved by March 1st, the deadline for the truce will be extended as needed. By June 30th the Trade War will be history”.
Jack: That’s the number one prediction. The reason I make that prediction is not because that’s what I hope will happen—that’s not wishful thinking. I think there are solid facts in place that are pointing towards a resolution of the crisis. If you go back to September when President Trump said that he was prepared to put 25 percent tariffs on $500 billion worth of Chinese exports to the United States, that was the low point of the discussions. Frankly, there were very little, if any, discussions between China and the United States between then and December 1 when President Xi and President Trump had their dinner in Buenos Aires.
By December 1, China was feeling the brunt of the Trade War, but the US really hadn’t felt it yet. The Chinese stock market was off 20 percent, and the currency was off nine percent against the US dollar. Meanwhile, the US stock market was up over the beginning of the year, and the Trade War really hadn’t had an impact yet.
They had their dinner, and then a lot of positive things began happening; including China making fentanyl a controlled substance, which is one of the big issues that came up because a lot of fentanyl was coming into the United States, fueling the opioid crisis. China reduced the tariff on autos coming from the United States to China from 40 percent to 15 percent, a very positive step; and started buying soy beans. China announced for the first time that they’re going to import rice from the United States. Sinopec announced that they’re getting ready to place big energy orders. There are a lot of positive signs, and most importantly, the two sides have been talking.
Since the Buenos Aires dinner, there have been meetings in Beijing. There are upcoming meetings here in the United States with China’s chief trade negotiator. The two sides are talking, and all the signs are pointing towards a resolution of the crisis. Can they get everything done by March 1st? That’s going to be a pretty tall order, because there are some very thorny issues like intellectual property that are going to take some time to work out. Besides, we have the Spring Festival holiday coming up in China. It starts February 3rd, and generally right about this time, things start to wind down. Not unlike activities start to wind down in mid-December in the United States in anticipation of the Christmas and New Year’s holiday. But, I feel quite confident that if they don’t have it all resolved by March 1st, President Trump will extend the deadline to give more time to negotiate a deal.
Most importantly, both countries and both presidents—President Xi and President Trump—now have a real incentive to get this Trade War resolved. The U.S. had a very bad stock market performance in December, and sentiment is very negative as far as the trade conflict with China. And then we’ve had this stalemate over the border wall. Clearly, the United States and President Trump would like to see a successful resolution; the markets would like to see a successful resolution. As we’ve mentioned before, because China has $500 billion worth of goods coming to the United States every year, China continues to have a very real incentive to get this resolved.
I think we’re now at a point where both countries are aligned in terms of wanting to get the Trade War resolved. That’s why I feel quite confident that by mid-year, the trade war between China and the United States will be history.
Doug: I would certainly say that qualifies as a grizzly bear prediction. You heard it here first.
Jack: That’s right. Fortunately, or unfortunately—and only time will tell—that will impact the rest of our predictions, or at least three other predictions.
Doug: All right. Prediction #2: “is that China’s stock market will regain at least one half of the ground it lost in 2018.”
Jack: China had the worst performing stock market in the world in 2018. The stock market was off about 26 percent from the beginning of the year. That’s the Shanghai Index; the Shenzhen Index was actually off, I think, something like 33 percent. Worst performance in the world; worst stock market performance in 10 years for China. The Chinese stock market is now trading where it was in 2014, and if you look at the trading patterns over the course of the year, it really started to sell off in March when the Trade War began.
In addition to the Trade War—and it goes well beyond trade—the fear on the part of Chinese citizens and others in China is that this Trade War will lead to other restrictions, perhaps on visas for Chinese coming into the United States. There’s a fear that it will have an even larger impact on China, all of which has factored into the stock market.
At the same time, the Chinese economy began slowing down. It started the year with growth of 6.8 percent in the first quarter; but ended the year at 6.4 percent in the fourth quarter, and about 6.6 percent growth for the whole year.
The third factor that shouldn’t be discounted is the deleveraging campaign. China has been restricting credit, trying to bring the country’s total debt to GDP down from around 300 percent. China has cracked down on credit; it’s encouraging the SOEs to repay borrowings that they’ve made over the last number of years. As a result, shadow loans have declined dramatically; there’s been a collapse of online lending platforms; and margin debt is now one-third of what it was in 2015, its lowest point since 2014. Margin debt helps stock prices—if investors can borrow against the shares they purchase, then they obviously can purchase more.
All of these negative factors impacted China’s stock market in 2018, which led to that very poor performance. Now if you go back over my last 10 years of predictions, every time I’ve made a stock market prediction, I’ve been either almost all wrong or completely wrong. I vowed a couple years ago that I was never going to make a stock market prediction again. But, I think in this case, there’s so much negativity that’s been reflected in the Chinese stock market, that I’ve just got to believe that it hit bottom in 2018. I’m not expecting it to go back to where it started the year. I think to recover that whole 26 percent loss in value would be too much. But I’m saying it’s going to get at least half of that back. That’s my prediction for the stock market.
Next year, when we sit down and go through another review, I may make another resolution never to do it again. But I gave in to the temptation to make a stock market prediction this time around.
Doug: I think that’s a good enough disclaimer that this isn’t investment advice. I think we’re supposed to say something along those lines.
Jack: It definitely is not investment advice. Trust me, you shouldn’t take investment advice from me.
Doug: Prediction #3: “US exports to China will set new records and increase by 15 to 30 percent in 2019, depending on the date when the trade war finally ends.”
Jack: Of all the issues that are on the table, the one tangible thing that China can do is start buying from the United States. It’s tangible in the sense that it’s quantifiable. You can actually see what the purchases are—people in the United States can see whether China is buying or not. Very importantly, it’s something that China has within its control. A big part of China’s economy are state owned enterprises that are, one way or another, controlled by the government.
For example, China imports about $1.8 trillion of products a year. About $250 billion of that is energy—China is a net energy importer. The US now is one of the largest producers of energy. I think that China can not only benefit its own economy by purchasing energy, but can also help the trade deficit with the United States. I think that’s the one thing that China can do. With other issues like intellectual property, it’s going to be a little bit harder to see whether there’s compliance, or to see whether progress is being made. But, exports of the United States to China is clearly one area where you can identify very tangible results.
In order to see how far this could go, I took a look at a range of product categories. Without doing an exhaustive analysis, I came up with at least 30 products— there are more than that I’m sure—that are very substantial and where the United States is one of the world’s five largest exporters, and where in that same product, China is one of the world’s five largest importers. If you take those 30 categories alone, they add up to about $500 billion worth of imports by China, about one-third of what China imports in total. If all China does is shift 10 percent of its purchases to U.S. buyers, that would be a net gain of $50 billion, which would be a big number. Last year, I believe the United States exported about $122 billion to China. Another 15 to 30 percent gets you somewhere in the $18 billion to $36 billion range, which would be a real positive for the United States and the relationship between the two countries.
Because imports are something that China can control to a greater or lesser degree, and because there are big product categories out there that China needs and that the United States produces, I believe that greater exports to China from the United States will be one of the impacts of the Trade War resolution.
Doug: You’re a tough enough grader that I’m sure, even if it puts your grade in jeopardy, you’ll grade yourself accordingly.
Jack: The nice thing about this prediction, it’s like trying to figure out Babe Ruth’s batting average—-you just look it up in the record books. It’s going to be pretty clear whether or not there’s been an increase in exports by the US to China.
Doug: Prediction #4: “The renminbi, China’s currency, will trade in the range from 6.5 to 7.0 to 1.0 US dollar in 2019.”
Jack: I made a mistake last year by predicting that China’s currency would stay stable at 6.5 to 1.0. That kind of a point prediction is always tough. I’ve given myself a little leeway here by saying that it’s going to trade from 6.5 to 1.0 to 7.0 to 1.0. There are a couple reasons for this prediction.
First of all, ever since the truce, and ever since the trade discussions have resumed, the RMB has strengthened against the dollar. The last I looked it was something like 6.87 to 1.0 and has come off its low point of 7.0 to 1.0. As the Trade War is resolved, you’re going to see improved investor sentiment, which will positively impact the Chinese stock market, and also impact the currency. I think the Chinese currency will strengthen, and it could strengthen all the way to 6.5 to 1.0.
I don’t believe that it’s going to go strengthen further than 6.5 to 1.0, because the Fed has raised interest rates in the United States. This is probably an even more uncertain world today than it was last year, and the U.S. dollar is a safe haven currency. Also, due to higher interest rates, US dollar assets are more attractive. On the other hand, if you look back over the last three or four years of trading history, China has been very reluctant to have the RMB depreciate beyond 7.0 to 1.0 for a number of reasons, the most important of which is that China does not want to give rise to claims of currency manipulation. The government seems to have drawn a line a couple times at 7.0 to 1.0.
Doug: Finally, Prediction #5: “New Energy Vehicle sales will reach 2.0 million units in 2019, widening China’s lead in the global electric vehicle industry.”
Jack: China continues to be very aggressive about pushing the production and sales of New Energy Vehicles and leads the world. 1.3 million NEVs were sold in China last year—three or four times what were sold in the United States. For a variety of very sound reasons, China has no alternative but to look for a more environmentally friendly way of building its auto industry and has pushed the development of electric vehicles.
In 2017, China changed its policy as far as how it’s going to treat NEVs. In the past, China has given very generous consumer subsidies to buyers of electric vehicles. A buyer in China, depending on the size of the car they buy, could get a subsidy of up to $10,000 towards the purchase of an EV. Interestingly, hybrid electric vehicles were not eligible for subsidies. For that reason, hybrids, even though they have many features that offset the disadvantages of EVs—range anxiety, for example—hybrid sales have been very weak in China.
China announced a new policy in 2017 which essentially shifts the burden of subsidizing the electric vehicle industry from the government to the assemblers. Beginning in 2019, China has established much higher average fuel economy standards and has gone to a point system. Depending on how many NEVs a company sells, it gets points. Each year, a company that produces more than 30,000 vehicles in China has to accumulate a certain number of points. If it doesn’t accumulate those points, then the government can actually shut down production of some of its internal combustion engine vehicles.
Going into 2019, the assemblers have a real incentive to get a percentage of their fleet into new energy vehicles. That’s why I think the overall category is going to grow. In particular, hybrids are going to grow very fast. Because they contribute to improving the average fuel economy of a company’s fleet, they are no longer disadvantaged because they don’t get subsidies.
Last year for example, the overall category was up 99 percent, but hybrids were up 140 percent. I think that, going into 2019, we’re going to see another strong 60 plus percent increase, with sales of NEVs crossing the 2 million vehicle mark. A big part of that growth is going to come from the sale of hybrids for the reasons that we mentioned.
Doug: You certainly ran the gamut of topics this year for your predictions.
Jack: Every year it’s a bit of a struggle to come up with predictions that aren’t just layups—trying to pick the issues that are most on everybody’s mind, and that also aren’t easy to predict. This year, the predominance of the trade discussions on the economies of the United States and China and the global economy, we thought that was an important one to address. How the Trade war gets resolved has an important knock on effect on a number of different aspects of the Chinese, U.S. and global economy.
We’ll see what happens.
In this podcast, Jack gives his five predictions for 2019, the Year of the Pig, and reviews the accuracy of his predictions for 2018 with Doug Perkowski.
***
Excerpt: “Well my dad once told me: “If you’re going to be a bear, be a grizzly.” I go into the 2019 predictions with a little bit of that in mind, because four of the five predictions in one way or another are related to the Trade War.” Listen or read on to find out more.
***
EPISODE TRANSCRIPT
Doug: We’re kicking off 2019, and I know that everyone is looking forward to hearing some of the predictions that you have for China and the U.S.
Jack: That’s correct. Every year about this time, we make our predictions for the coming year. Before we do that, though, we do something a little bit differently than others who make predictions. Before we make our predictions for the New Year, we actually review the predictions we made a year before and analyze them to see how we’ve done.
I have made five predictions every year for the last 10 years. We grade ourselves on a grade of one to 20 for each partial or correct prediction. Granted, we’re grading our own paper, and people may disagree with the score we give, but we hope they at least give us credit for transparency. We find that it also helps to review the predictions for the last year, because it provides a very good review of what just happened in China, and oftentimes sets the stage for the coming year.
Doug: How long have you been doing this?
Jack: This is our 11th year. We have 10 years of predictions under our belt. They’re all listed and published, so anyone can go back and see not only the predictions that we’ve made, but then how we scored ourselves at the end of the year.
Doug: All right, let’s take a look at the 2018 predictions you made. Prediction #1: “After exceptionally strong growth in 2017, China’s exports to the United States will once again break records in 2018.”
Jack: Yes, that was the first prediction I made. The reason for making it was that the United States economy was doing better. The U.S. grew at 4.5 percent in the second quarter and had strong growth all year. Because China is such an integral part of the global economy today, and because so many companies have now set up their supply chains to the United States and other countries by locating factories in China, the exports from China to the United States tend to be a bit of a barometer on how the U.S. economy is doing. The better the U.S. economy does, the better exports from China ought to do.
Expecting a strong economy in the United States in 2018, we predicted that China would once again break new records and increase exports. In 2017, exports were up about nine percent, which is a pretty big percentage growth on $500 Billion trade with the US.
Doug: Beating the growth of the Chinese economy as a whole.
Jack: Yes, that’s correct.
Doug: Prediction #2: “China will maintain the value of the renminbi at approximately the current exchange rate of 6.5 to 1.0.”
Jack: As background, the RMB against the dollar has been a bit of a rollercoaster ride over the last couple years. The RMB was about 6.0 to 1.0 in the beginning of 2016. Then, Chinese companies went on an acquisition binge and started making a record number of overseas acquisitions. But, the negative side to this was that it led to a great deal of RMB leaving the country, so the RMB sold off to about 7.0 to 1.0 by the beginning of 2017. To prop up its currency, China had to spend about $1.0 trillion of its foreign currency reserves. It also began to restrict overseas acquisitions.
As a result, the RMB then began to appreciate, and by the first quarter of 2018, was trading at 6.3 to 1.0. Then the trade war between China and the United States started, which no one could have predicted at the beginning of the year and which caused a great deal of negative investor sentiment. The RMB then began to sell off and approached 7.0 to 1.0 once again. With the resumption of talks and the Trade War Truce, the RMB has strengthened and is now trading at about 6.8 to 1.0. Basically, I predicted that the RMB would remain stable at about 6.5 to 1.0. But, the Trade War intervened and caused China’s currency to go as low as 7.0 to 1.0 against the dollar.
Doug: How many points did you award yourself for that one?
Jack: On that one we gave ourselves zero. We should go back to Prediction #1. We did give ourselves full credit for that one. We got the full 20 points for Prediction #1, but Prediction #2 was a complete whiff.
Doug: All right, so Prediction #3: “In the face of strong export growth, China will continue to restrict overseas investment. As a result, overseas acquisitions by Chinese companies will be flat to down in 2018.”
Jack: Going back to what I said before, China had a very, very strong year as far as overseas acquisitions in 2016, which had a negative impact on the currency. The Chinese government spent a lot of money trying to keep the currency somewhat stable. At the beginning of the year, we did not see any signs that China was going to let up on that scenario. We felt that overseas acquisitions would continue to be restricted by China, and that they would be flat to down for the year. That’s exactly what happened in 2018. We don’t have the numbers for the full year because those tend to lag a bit, but they were down pretty substantially in the first half and into the third quarter.
On that prediction, we were not bashful about giving ourselves 20 points.
Doug: All right–two out of three. Prediction #3: “The situation with North Korea will come to a head in 2018, and China will play a constructive role, albeit behind the scenes, in the successful resolution of the crisis on the Korean Peninsula.”
Jack: If you go back to January 2018, the US and North Korea were at loggerheads. North Korea was firing missiles threatening Japan and was ramping up its nuclear program. Clearly, it was a situation that couldn’t last, and the Trump administration said that the ball had been kicked down the road for 20 plus, or 40 plus, years, but now the U.S. had to take action.
Behind the scenes, we felt strongly that China would weigh in because it has a large vested interest in having peace on the Korean Peninsula. China also wants to have a good relationship with the United States, and of all the countries in the world, China is probably the only country that Kim Jong Un can treat as a sounding board and that can give him the courage to go ahead and have talks with the U.S.
Sure enough, that’s what happened. Kim made at least three trips to Beijing in 2018. No one really knows what President Xi said to him, but I am sure that it was giving him reassurance, encouraging him to have talks with the United States. If nothing else, China and President Xi represented a friend in a world where Kim really doesn’t have many friends. As a result, we felt that China would play an important behind the scenes role in trying to facilitate discussions between the United States and North Korea.
Obviously, there’s a long way to go to have any kind of resolution with North Korea. But, a lot of positive things have happened. The missile tests have stopped; North Korea stopped launching missiles across the waters; and the remains of prisoners in North Korea—U.S. prisoners that were taken captive in the Korean War—have been returned. We believe that a lot of progress has been made, and believe that China played a very important, behind the scenes role.
Again, we took 20 points on this one. By the way, making a prediction about North Korea was a little bit out of our wheelhouse. Typically, we talk about the economy, the auto industry, the stock market, and any number of economic issues. But, we felt pretty strongly that North Korea would play out the way we had predicted
Doug: At the end of 2017, that was all anyone was thinking about.
Jack: That’s correct. There are broad implications for not only the US and North Korea, but also for China, Japan and a number of Asian countries. It was topmost on everybody’s mind. When we make these predictions, we try to figure out what the hot topics in the upcoming year will be.
Doug: All right, you gave yourself full marks for that one too, I believe.
Jack: We gave ourselves 20 points on that one.
Doug: Your fifth prediction was: “China will break the one million mark in sales of new energy vehicles, NEVs, in 2018.”
Jack: That’s exactly what happened. China actually ended up making and selling about 1.3 million new energy vehicles. When they say new energy vehicles, they mean not only electric vehicles, but they mean hybrids, fuel cells and so forth. It’s a broader definition than just electric vehicles. China has made a big push in the NEV space—it’s part of their five-year plan, and topmost in their industrial and auto policy. China has had very strong growth in EVs in each of the last three or four years, and we felt that that was going to continue. For 2018, NEV sales were up about 99 percent over 2017. Again, we take 20 points for that one.
Doug: That’s four out of five. Not too shabby.
Jack: When you add it up, we gave ourselves a full 20 points on four of them, and we had a complete miss on the one about the currency, so our score for 2018 was an 80. In the 10 years we’ve been doing this—2018 was the 10th year—-that was the third year in which we had an 80. We actually had one year where we had higher, about an 85. But, we had one year, 2011, when we scored a 43. We tend to be a hard-markers.
Doug: Now what everybody is waiting for—what do you have in store as far as predictions for 2019?
Jack: Well my dad once told me: “If you’re going to be a bear, be a grizzly.” I go into the 2019 predictions with a little bit of that in mind, because four of the five predictions in one way or another are related to the Trade War. Because again, in 2019, the key issue that is confronting everyone is: “What’s going to happen with this Trade War between China and the United States? Are we going to see an escalation? Is this going to continue? Or is it going to end?” Obviously, what happens with the Trade War has an important knock on effect to other parts of the economy; to the performance of the stock market; to the currency and so forth. If we get our first prediction right, which is about the Trade War, then we’re going to get 20 points on at least three of the other predictions.
Doug: All right, let’s take a look at them. Prediction #1: “The Trade War between the United States and China will be successfully resolved. While the issues between the two countries may not be resolved by March 1st, the deadline for the truce will be extended as needed. By June 30th the Trade War will be history”.
Jack: That’s the number one prediction. The reason I make that prediction is not because that’s what I hope will happen—that’s not wishful thinking. I think there are solid facts in place that are pointing towards a resolution of the crisis. If you go back to September when President Trump said that he was prepared to put 25 percent tariffs on $500 billion worth of Chinese exports to the United States, that was the low point of the discussions. Frankly, there were very little, if any, discussions between China and the United States between then and December 1 when President Xi and President Trump had their dinner in Buenos Aires.
By December 1, China was feeling the brunt of the Trade War, but the US really hadn’t felt it yet. The Chinese stock market was off 20 percent, and the currency was off nine percent against the US dollar. Meanwhile, the US stock market was up over the beginning of the year, and the Trade War really hadn’t had an impact yet.
They had their dinner, and then a lot of positive things began happening; including China making fentanyl a controlled substance, which is one of the big issues that came up because a lot of fentanyl was coming into the United States, fueling the opioid crisis. China reduced the tariff on autos coming from the United States to China from 40 percent to 15 percent, a very positive step; and started buying soy beans. China announced for the first time that they’re going to import rice from the United States. Sinopec announced that they’re getting ready to place big energy orders. There are a lot of positive signs, and most importantly, the two sides have been talking.
Since the Buenos Aires dinner, there have been meetings in Beijing. There are upcoming meetings here in the United States with China’s chief trade negotiator. The two sides are talking, and all the signs are pointing towards a resolution of the crisis. Can they get everything done by March 1st? That’s going to be a pretty tall order, because there are some very thorny issues like intellectual property that are going to take some time to work out. Besides, we have the Spring Festival holiday coming up in China. It starts February 3rd, and generally right about this time, things start to wind down. Not unlike activities start to wind down in mid-December in the United States in anticipation of the Christmas and New Year’s holiday. But, I feel quite confident that if they don’t have it all resolved by March 1st, President Trump will extend the deadline to give more time to negotiate a deal.
Most importantly, both countries and both presidents—President Xi and President Trump—now have a real incentive to get this Trade War resolved. The U.S. had a very bad stock market performance in December, and sentiment is very negative as far as the trade conflict with China. And then we’ve had this stalemate over the border wall. Clearly, the United States and President Trump would like to see a successful resolution; the markets would like to see a successful resolution. As we’ve mentioned before, because China has $500 billion worth of goods coming to the United States every year, China continues to have a very real incentive to get this resolved.
I think we’re now at a point where both countries are aligned in terms of wanting to get the Trade War resolved. That’s why I feel quite confident that by mid-year, the trade war between China and the United States will be history.
Doug: I would certainly say that qualifies as a grizzly bear prediction. You heard it here first.
Jack: That’s right. Fortunately, or unfortunately—and only time will tell—that will impact the rest of our predictions, or at least three other predictions.
Doug: All right. Prediction #2: “is that China’s stock market will regain at least one half of the ground it lost in 2018.”
Jack: China had the worst performing stock market in the world in 2018. The stock market was off about 26 percent from the beginning of the year. That’s the Shanghai Index; the Shenzhen Index was actually off, I think, something like 33 percent. Worst performance in the world; worst stock market performance in 10 years for China. The Chinese stock market is now trading where it was in 2014, and if you look at the trading patterns over the course of the year, it really started to sell off in March when the Trade War began.
In addition to the Trade War—and it goes well beyond trade—the fear on the part of Chinese citizens and others in China is that this Trade War will lead to other restrictions, perhaps on visas for Chinese coming into the United States. There’s a fear that it will have an even larger impact on China, all of which has factored into the stock market.
At the same time, the Chinese economy began slowing down. It started the year with growth of 6.8 percent in the first quarter; but ended the year at 6.4 percent in the fourth quarter, and about 6.6 percent growth for the whole year.
The third factor that shouldn’t be discounted is the deleveraging campaign. China has been restricting credit, trying to bring the country’s total debt to GDP down from around 300 percent. China has cracked down on credit; it’s encouraging the SOEs to repay borrowings that they’ve made over the last number of years. As a result, shadow loans have declined dramatically; there’s been a collapse of online lending platforms; and margin debt is now one-third of what it was in 2015, its lowest point since 2014. Margin debt helps stock prices—if investors can borrow against the shares they purchase, then they obviously can purchase more.
All of these negative factors impacted China’s stock market in 2018, which led to that very poor performance. Now if you go back over my last 10 years of predictions, every time I’ve made a stock market prediction, I’ve been either almost all wrong or completely wrong. I vowed a couple years ago that I was never going to make a stock market prediction again. But, I think in this case, there’s so much negativity that’s been reflected in the Chinese stock market, that I’ve just got to believe that it hit bottom in 2018. I’m not expecting it to go back to where it started the year. I think to recover that whole 26 percent loss in value would be too much. But I’m saying it’s going to get at least half of that back. That’s my prediction for the stock market.
Next year, when we sit down and go through another review, I may make another resolution never to do it again. But I gave in to the temptation to make a stock market prediction this time around.
Doug: I think that’s a good enough disclaimer that this isn’t investment advice. I think we’re supposed to say something along those lines.
Jack: It definitely is not investment advice. Trust me, you shouldn’t take investment advice from me.
Doug: Prediction #3: “US exports to China will set new records and increase by 15 to 30 percent in 2019, depending on the date when the trade war finally ends.”
Jack: Of all the issues that are on the table, the one tangible thing that China can do is start buying from the United States. It’s tangible in the sense that it’s quantifiable. You can actually see what the purchases are—people in the United States can see whether China is buying or not. Very importantly, it’s something that China has within its control. A big part of China’s economy are state owned enterprises that are, one way or another, controlled by the government.
For example, China imports about $1.8 trillion of products a year. About $250 billion of that is energy—China is a net energy importer. The US now is one of the largest producers of energy. I think that China can not only benefit its own economy by purchasing energy, but can also help the trade deficit with the United States. I think that’s the one thing that China can do. With other issues like intellectual property, it’s going to be a little bit harder to see whether there’s compliance, or to see whether progress is being made. But, exports of the United States to China is clearly one area where you can identify very tangible results.
In order to see how far this could go, I took a look at a range of product categories. Without doing an exhaustive analysis, I came up with at least 30 products— there are more than that I’m sure—that are very substantial and where the United States is one of the world’s five largest exporters, and where in that same product, China is one of the world’s five largest importers. If you take those 30 categories alone, they add up to about $500 billion worth of imports by China, about one-third of what China imports in total. If all China does is shift 10 percent of its purchases to U.S. buyers, that would be a net gain of $50 billion, which would be a big number. Last year, I believe the United States exported about $122 billion to China. Another 15 to 30 percent gets you somewhere in the $18 billion to $36 billion range, which would be a real positive for the United States and the relationship between the two countries.
Because imports are something that China can control to a greater or lesser degree, and because there are big product categories out there that China needs and that the United States produces, I believe that greater exports to China from the United States will be one of the impacts of the Trade War resolution.
Doug: You’re a tough enough grader that I’m sure, even if it puts your grade in jeopardy, you’ll grade yourself accordingly.
Jack: The nice thing about this prediction, it’s like trying to figure out Babe Ruth’s batting average—-you just look it up in the record books. It’s going to be pretty clear whether or not there’s been an increase in exports by the US to China.
Doug: Prediction #4: “The renminbi, China’s currency, will trade in the range from 6.5 to 7.0 to 1.0 US dollar in 2019.”
Jack: I made a mistake last year by predicting that China’s currency would stay stable at 6.5 to 1.0. That kind of a point prediction is always tough. I’ve given myself a little leeway here by saying that it’s going to trade from 6.5 to 1.0 to 7.0 to 1.0. There are a couple reasons for this prediction.
First of all, ever since the truce, and ever since the trade discussions have resumed, the RMB has strengthened against the dollar. The last I looked it was something like 6.87 to 1.0 and has come off its low point of 7.0 to 1.0. As the Trade War is resolved, you’re going to see improved investor sentiment, which will positively impact the Chinese stock market, and also impact the currency. I think the Chinese currency will strengthen, and it could strengthen all the way to 6.5 to 1.0.
I don’t believe that it’s going to go strengthen further than 6.5 to 1.0, because the Fed has raised interest rates in the United States. This is probably an even more uncertain world today than it was last year, and the U.S. dollar is a safe haven currency. Also, due to higher interest rates, US dollar assets are more attractive. On the other hand, if you look back over the last three or four years of trading history, China has been very reluctant to have the RMB depreciate beyond 7.0 to 1.0 for a number of reasons, the most important of which is that China does not want to give rise to claims of currency manipulation. The government seems to have drawn a line a couple times at 7.0 to 1.0.
Doug: Finally, Prediction #5: “New Energy Vehicle sales will reach 2.0 million units in 2019, widening China’s lead in the global electric vehicle industry.”
Jack: China continues to be very aggressive about pushing the production and sales of New Energy Vehicles and leads the world. 1.3 million NEVs were sold in China last year—three or four times what were sold in the United States. For a variety of very sound reasons, China has no alternative but to look for a more environmentally friendly way of building its auto industry and has pushed the development of electric vehicles.
In 2017, China changed its policy as far as how it’s going to treat NEVs. In the past, China has given very generous consumer subsidies to buyers of electric vehicles. A buyer in China, depending on the size of the car they buy, could get a subsidy of up to $10,000 towards the purchase of an EV. Interestingly, hybrid electric vehicles were not eligible for subsidies. For that reason, hybrids, even though they have many features that offset the disadvantages of EVs—range anxiety, for example—hybrid sales have been very weak in China.
China announced a new policy in 2017 which essentially shifts the burden of subsidizing the electric vehicle industry from the government to the assemblers. Beginning in 2019, China has established much higher average fuel economy standards and has gone to a point system. Depending on how many NEVs a company sells, it gets points. Each year, a company that produces more than 30,000 vehicles in China has to accumulate a certain number of points. If it doesn’t accumulate those points, then the government can actually shut down production of some of its internal combustion engine vehicles.
Going into 2019, the assemblers have a real incentive to get a percentage of their fleet into new energy vehicles. That’s why I think the overall category is going to grow. In particular, hybrids are going to grow very fast. Because they contribute to improving the average fuel economy of a company’s fleet, they are no longer disadvantaged because they don’t get subsidies.
Last year for example, the overall category was up 99 percent, but hybrids were up 140 percent. I think that, going into 2019, we’re going to see another strong 60 plus percent increase, with sales of NEVs crossing the 2 million vehicle mark. A big part of that growth is going to come from the sale of hybrids for the reasons that we mentioned.
Doug: You certainly ran the gamut of topics this year for your predictions.
Jack: Every year it’s a bit of a struggle to come up with predictions that aren’t just layups—trying to pick the issues that are most on everybody’s mind, and that also aren’t easy to predict. This year, the predominance of the trade discussions on the economies of the United States and China and the global economy, we thought that was an important one to address. How the Trade war gets resolved has an important knock on effect on a number of different aspects of the Chinese, U.S. and global economy.
We’ll see what happens.
