THE TAIL THAT WAGS THE DOG?

For a long time the world economies have played second fiddle to the U.S.  You often hear “when the U.S. sneezes the world catches a cold”.  But for the first time it looks like we might be catching someone else’s cold.  There is little doubt that China was the growth engine of the 2003-2007 bull market.  GDP was booming at 11% in China while the U.S. was struggling to maintain 3%+ growth.  China’s stock market was up 6 fold during the boom while the U.S. struggled to double.  If your company had even a small interest in China it could overcome weakness in any of your domestic segments.  The growth was truly remarkable.

It appeared as though things were going smoothly until China got frothy.  Investors piled into stocks and real estate as anything even remotely linked to China exploded.  But in typical bubble fashion the party ended after a huge parabolic surge.  On October 16th the Shanghai Index topped.  I remember it vividly because I shorted the only U.S. traded Chinese stock index – the FXI on that very day.   You learn a lot about foreign stocks when you short an index that isn’t a pure trade on the Shanghai (the FXI tracks the Hang Seng China Enterprise Index – an index that is heavily weighted in a few names and those names (CHL, LFC & PTR) were surging).   6 weeks and a few pounds later the trade came to fruition and Hang Seng collapsed in spectacular fashion.  The Shanghai Index was already down 25% at this point (I was pulling my hair out – talk about being right in theory and wrong in reality!).   But the wheels were in motion.  And the wheels were “made in China”.

The U.S. might have played an instrumental role in causing many of the issues at hand, but the S&P 500 revenues are now 50% abroad and trust me – the domestic 50% weren’t the ones driving the Dow recovery from 2003-2007.  China led us into this recession and it’s likely that China will lead us out.  And after a 70%+ decline, China’s not looking like a bad long-term bet to me….