Over the last year, the People's Republic of China has instituted several far-reaching policies that have roiled its economy and stock market. As a result, the Chinese stock market has lost some $2.1 trillion from its high. Are things about to change?

 

In a brief statement on March 15, 2022, China's top financial policy body seems to have relented somewhat, if not completely made a U-turn on policy The governing policy committee promised to ensure stability in capital markets, support overseas stock listings, resolve risks around property developers and complete the crackdown on technology companies. Both the central bank and the banking oversight committee would help implement these policy changes.

 

Some might say that China has been its own worst enemy. An increasing (but late) chorus of Wall Street pundits have deemed the Chinese stock market as "uninvestable." Some might ask where have they been over the last 10 months or so?

 

On July 8, 2021, I warned investors in my column "China's Red Hand of Regulation" https://tinyl.io/5uAP that "there are all the signs that these new regulatory risks are here to stay. In which case, we can expect more of them and as a result, a re-rating of Chinese securities (downward) would certainly be in order."

 

I believed that the efforts of the Chinese Communist Party faithful, led by President Xi Jinping, to clamp down and extend control of its largest companies in the name of "common prosperity" would not only be successful, but also devastating for both local and international investors. The result: a $2.1 trillion hit to China's financial markets. But is it now time to look forward?

 

Until this week, the red hand of this communist government had become even more intrusive and had moved into areas that were thought to be governed by the private capital markets in the name of national security.

 

There were also real concerns that another $1.1 trillion worth of U.S. listed Chinese stocks could be in jeopardy. The fear was that some large mega stocks like Yum China could be de-listed under the Holding Foreign Companies Accountable Act for failing to submit detailed audit documents that support their financial statements.

 

An ongoing auditing dispute between Chinese regulators and the U.S. Securities and Exchange Commission is still not resolved. This issue is also complicated by several other events which need to be resolved between both nations.

 

For example, in February 2022, China and Russia declared a new era in the global order, endorsing their respective territorial ambitions in Ukraine and Taiwan among other things. Since then, Russia invaded Ukraine, leading many to believe China was fully aware of Putin's plans. China refused to condemn the move, nor agree to the economic sanctions levied against Russia by most of the West.

 

Relations between the U.S. and China have deteriorated further since then as China now appears to be helping Russia circumvent the sanctions. This issue goes away with a cease fire between Ukraine and China.

 

And while all of this is going on in the international front, China's economy has taken a massive hit last year due to its over-leveraged real estate market. But the latest economic figures for January through February 2022 were well above expectations, with industrial output rising 7.5 percent versus last year, fixed investment grew by 12.2 percent and retail sales up by 6.7 percent. These were double the estimates of most economists. Growth this year is estimated to fall to 5.5 percent, which is still a healthy rate, but down from last year's 6 percent. 

 

Unfortunately, over the last week, the Chinese have suddenly been forced to begin shutting down some areas of their economy thanks to a resurgence in the Omicron variant of the coronavirus. This may call into question whether the country can sustain its expected growth rate.

 

China's zero-COVID strategy, which was introduced early in the pandemic involves large-scale lockdowns, mass testing, and international travel bans. Tens of millions of people country-wide are facing restrictions. Shenzhen Province, home to 12.5 million people, has been locked down. It is the nation's technology hub and a critical supplier to major auto companies and many semiconductor suppliers.   

 

Jilin Province has also been shut down, with residents banned from moving around. This is the first time China has locked down entire provinces since the Wuhan and Hebei lockdown at the beginning of the pandemic. More lockdowns are expected in the next few days. However, if the global experience with Omicron is any guide, the surge in cases may be short-lived.

 

In my opinion, if you are willing to take a higher-than-normal level of risk, it is time to once again dip your toes into the Chinese stock market.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.

Commodity prices are flying. Nickel doubled in price in two days. Wheat is up 50 percent and has experienced trading halts for five straight days. Gold has breached $2,000 an ounce and we all know what has happened to the price of oil. How long can it last?

 

As longtime readers know, I formally recommended commodities as out-performers back in January 2021. At that time, I was bullish on oil, copper, and soft commodities like food and lumber. I also liked crypto currencies. As for precious metals like gold and silver, not so much.

 

Back then, most market participants had dumped gold and were piling into Bitcoin and the like. These digital currencies were touted as the "new gold" and precious metals were relegated to the sidelines.

 

It wasn’t until five months later (May 2021) that I began to warm up to precious metals as cryptos hit all-time highs. As I said back then, "I believe we may be on the cusp of a new move higher in this precious metal (and silver along with it)." But it wasn’t as if gold had gone nowhere in the meantime.

 

Gold made what I believe was a cycle low back in November 2020 at $1,767.20 an ounce and hit $1,882.70 by the time I recommended it. That amounted to a 6.5 percent gain from the cycle low. The gold price hit $2,082 this week before profit taking took it back down below $2,000 per ounce. Most of the other commodities on my list have done equally as well, or even better. Granted, the gains are good, but what do we do now?

 

Unlike many investments, the time to buy commodities is when prices continue to climb higher as they have been doing for the past year or so. Traditionally, as prices increase, experienced traders know to chase prices higher. A virtuous and somewhat vicious cycle of higher and higher prices erupts. That behavior has hit home to many investors during the past few weeks. Commodities are in a parabolic move higher.

 

Common sense would tell you that this phase of price gains, were it to continue, would cause severe dislocations in the economy. These stratospheric prices would boost the cost of manufacturing inputs to the point where production would begin to falter. Inflation would leap, and prices skyrocket for goods to the point that most global economies would fall into a recession, or a period of stagflation. As such, I believe it is time to take some profits.

 

The problem with calling a top in commodities in this environment is that their rise (and ultimate fall) depends on several geopolitical events that cannot be predicted. Take it from an old-time, commodity investor, the way to handle this rise is to begin selling into these price gains. I made my bones in the commodity market by buying and selling gold and silver, while working as a bunker oil salesman in New York Harbor. I made enough to pay my way through graduate school back in 1979 and I never looked back.

 

Since then, over the decades, I have seen several huge moves in commodity cycles. The most successful traders I know begin to sell (slowly) when there are a series of limit-up moves and/or trading halts. That is the environment we are in today.

 

 Another sell sign is when analysts and experts begin to increase their price targets for various commodities. Recently, I am beginning to see forecasts that gold prices could get above $3,000 per ounce, and oil prices as high as $200 per barrel. That should tell you to start profit-taking. My own view is that after the end of the present geopolitical turmoil, we could see gold down several hundred dollars by mid-year.

 

Crude oil hit $110 a barrel this week. The price of natural gas rose in sympathy. In addition to the already announced economic sanctions, demands to add an embargo on Russian energy exports are increasing. Be careful what you wish for.

 

Most of the world governments have already instituted several hard-hitting sanctions against Russia. Financially, the harshest step so far has been barring Russia's central bank and several large Russian banks from using the Society for Worldwide Interbank Financial Telecommunications (SWIFT) system. SWIFT is a messaging network used by almost all financial institutions to quickly and accurately receive information such as money transfer instructions. As such, the entire Russian financial system has been cut off from the international financial system. It was considered a "financial nuclear weapon" by most credit analysts.

 

Most bystanders neither understand, nor care about this action. That indifference may be a mistake. No one really knows the ramifications of such a move on the global financial system. While the financial isolation cripples Russia, it may also have unpredictable consequences for other financial institutions.

 

How many of our U.S. or European banks are exposed to Russian debt, for example? How will they receive payments from Russian debtors? Are there assets, holdings, or obligations that are now in jeopardy because of these sanctions? Could the blowback take down parts of our global financial system along with Russia? Global investors are not waiting around to find out. Prices of banks and other financial institutions in world markets have been a free fall.

 

As for the energy market, only Canada has said it was banning Russian oil imports. So far, no other nation has targeted Russia's energy complex directly. Several global oil companies have announced they will be pulling out of activities in Russia. In the private energy markets, there is a clear preference to avoid buying Russian crude, which constitutes a semi-embargo situation right now. But most of the nations opposed to Russia's aggression have kept silent on energy embargos.

 

The problem with an energy embargo is that, even before Russia's evasion of the Ukraine, oil supplies have been tight with supply constraints swamped by increasing global demand. Any additional reduction in supply could not only send the inflation rate much higher but might also plunge the world and the U.S. into a recession.  That said, could the worsening situation in Ukraine precipitate a Russian embargo despite the economic risks?

 

It could, which is why the International Energy Agency decided to hold an "emergency" meeting on Tuesday, March 1. They discussed what IEA members can do to stabilize energy markets and announced a 60-million barrel release from strategic reserves. The U.S. is providing half of that amount. Naturally, several other nations are planning to release energy supplies from their strategic stockpiles. That would amount to a drop in the bucket, however, since those emergency supplies would only cover energy demand for a week at most. A reduction in government taxes on gasoline might help, but not by much.

 

There are two other avenues that the world could use to limit the rise in energy prices. One would be a breakthrough in the Iran/U.S. nuclear negotiations. The 10-month talks have been difficult, since under the last administration, former president Donald Trump arbitrarily quit the negotiation process. The Biden administration revived the talks, but the wall of Iranian distrust has been difficult to climb.

 

The talks are dragging on over resolving questions over uranium traces found at several old but undeclared sites in Iran. "Significant differences" keep both sides from signing a pact. But as energy prices climb higher, the one million barrels of oil that Iran could sell on the open markets become increasingly attractive for a country suffering the impact of economic sanctions. From the U.S. side, those extra barrels could go a long way to corral rising oil prices, at least in the short term.

 

OPEC is also another wild card that could help increase supply somewhat. The oil producer's cartel met on Wednesday, March 2, but made no move to increase supply beyond their already announced program. Both Saudi Arabia and the UAE could increase production, but that would put them at odds with Russia, a member in good standing in OPEC-plus.

 

All of the above, I am afraid, might knock the price of oil down by $5 or so in the very short-term, but I suspect that given the ongoing risks of a war in Ukraine, oil will make higher highs in the weeks ahead.

 

The war drums are beating. Oil and gas prices are soaring. Inflation is at a decades-long high. Bearish sentiment is exploding. And the stock market is giving investors angina. What to do?

 

Take a deep breath and remember that whatever the circumstances, this too shall pass. I know that is easy to say, but a longer-term perspective might prevent you from doing something foolish like selling into this downturn.

 

Let's address the present fear that today's geopolitical tension will somehow escalate into possibly WWIII. Sure, anything can happen, but is war the most probable outcome? The present reaction by the U.S. and its allies regarding Vladimir Putin's aggression toward Ukraine has been confined to economic sanctions. No one in the administration is contemplating a military response.

 

Make no mistake, the economic sanctions that we implement against Russia could have a certain amount of blowback for the U.S. and European nations. We already see higher prices for energy (oil is above $100 a barrel as I write this. Other commodities have also shot up in price. This could mean that further increases are ahead and for a longer period of time than we expected, which would make fighting the present rate of inflation more difficult, but not impossible.

 

From a historical perspective, the specter of a new cold war shouldn't have a debilitating impact on the world economy. Economies, including our own, have thrived despite decades-long cold wars in the past. Could we see further hacking attacks directed against our companies or financial system? We could, but I suspect they would be more of an inconvenience than a real body blow. If anything, it may change the investment prospects for certain sectors (such as defense or IT security) in the future.

 

As for how the markets are handling this event, one must understand that for many this kind of correction is brand new. There are 25 million investors new to the stock market that have only seen markets go higher in the last year or so that have been investing. And there is an entire generation of investors who have never seen an environment of rising interest rates and higher inflation.  

 

In addition, there are now armies of short-term traders with software programs set to react instantly to news based on certain key words. You can guess that words like "war," "invasion," and "sanctions," in connection with "Ukraine" or "Russia" are triggering buy or sell programs with millions (if not billions) of dollars at risk. The fact that the world media is broadcasting every accusation, every rumor, every quote concerning this crisis simply heightens this type of trading.

 

Don't mistake these computer-generated day trades as indicative of what the market thinks will or will not happen. The professional institutional investors are not panicking. Dark pool buying, which is a better indication of what the pros are doing, has seen consistent buying for the last few weeks. Of course, what they are buying (and selling) could be significant.

 

In this age of higher inflation, materials, financials, commodities, and defensive sectors like REITS, telecommunications, and utilities are in demand. Technology and speculative areas, such as cryptos and the "Kathy Wood" stocks, are being liquidated and will continue to be a source of funds, in my opinion.

 

Will the overall market continue to decline? If the Federal Reserve Bank continues its monetary tightening program, the odds are that we have more downside ahead of us. If things get out of hand (and it appears today that they are),  this decline fall another 6-7 percent in the S&P 500 Index. That would bring the total decline to almost 20 percent overall between now and the end of March.  Given the market's outstanding performance over the last few years, it seems to me a small price to pay for those gains.

 

Yes, a loss like that in less than six months would be painful, but not the end of the world. And losses you might incur now could easily be recouped by the end of the year. If you hold through this downturn, they would only be paper losses. If you sell in a panic however, they will become real losses. Selling the "news" is a bad strategy, but selling when the news cannot even be verified is a real sucker's game. We are in that kind of investment atmosphere today.

 

Take it from me, it is too late to sell. Hang in there, ignore the news, and take a deep breath.

 

You would think that the Americans would be feeling pretty good right now. Wages are increasing almost monthly. Workers have their pick of jobs in this tight labor market and the coronavirus seems to be peaking. So why are so many consumers unhappy?

 

Consumer sentiment numbers, as measured by the University of Michigan Consumer Sentiment Survey, fell in preliminary February 2022 numbers to its lowest level in more than a decade. Back then in October 2011, the unemployment rate was more than double the present 4 percent rate.

 

In a January 2022 Gallup Poll, 72 percent of those surveyed thought it was a great time to find a quality job. That was the highest reading since 2001. Historically, there is a strong correlation between consumer sentiment and rising employment but this time it is different. So, what has changed?

 

In one word: Inflation. To understand why, we need to recognize that economic society has two roles: the average worker is both a producer and a consumer. Essentially, most Americans receive a certain income in exchange for some level of production. In a perfect world, the more one produces, the higher the pay, or so the economists tell us.

 

The consumer side of us believes that in exchange for our production we receive money and access to buying products at reasonable prices. Today, that side of the equation is becoming increasingly problematic as the inflation rate climbs and supply chain problems continue to make some products scarce at any price. As such, we may feel that we are not getting a fair shake in this economy.

 

I also suspect that the Michigan survey's target audience had something to do with this decline in consumer sentiment. The survey was confined to those families that are making more than $100,000 annually. That demographic, more likely than not, earmarks some of their income annually toward retirement savings. In the stock market. As such, their attitude may be partially influenced by what is happening in the financial markets.

 

That brings me to the latest data from the American Association of Individual Investors (AAII), which surveys investors' sentiment toward the stock market. Over the last few weeks, the number of individuals that believe the stock markets are going to continue to fall is much higher than historical averages. In short, individuals are bearish on America. This negative sentiment, coupled with the shock of a higher rate of inflation, may explain the sour state of the consumer right now.

 

I count myself as one of these disgruntled consumers/producers. As my loyal readers know, the equity markets are going through one of the most volatile periods in recent memory. I warned readers almost two months ago to reduce risk and prepare for this outcome. But don't think the wild daily swings in the markets are a cake walk no matter how well prepared you may be.

 

The stress for those trading these markets frequently (like me) is extremely high. To relieve stress, I often resort to cooking (and exercise). Imagine my dismay, therefore, over the past few months when grocery shopping.

 

Aside from the risk of contracting the Omicron variant while standing in line, I increasingly discover that some of the most important ingredients for my dinner menu are nowhere to be found. Worse, even if they are available, the prices climb on a weekly basis. That package of London broil or lamb chops has doubled in price in just a few short months. "One package per customer" signs assault me at every turn.

 

This weekend, I noticed everything from a loaf of fresh-baked bread to a container of almond milk have shrunk seemingly overnight. Even the rotisserie chickens seem to have gone on a diet, despite hefty price increases.

 

My own reaction is to spend less, work harder, and try to quell the helpless anger I feel at this sudden turn of events. I am old enough to remember when inflation was a fact of life for Americans, but it is still a shock to me. I can just imagine how younger workers, who have never seen the devastating impact of inflation, could be somewhat grumpy with their lot in life at the moment.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.