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Novum Alpha - Weekend Edition 25-26 September 2021 (10-Minute Read)

Markets saw a muted end to an otherwise eventful week and will continue to be volatile until a clear and certain resolution is provided for the Evergrande Group's ongoing credit crunch. Beijing is likely to take comfort from the fact that so far the contagion has been contained to Evergrande Group, and looks prepared to allow the country's second largest real estate developer to suffer a little longer as an example to other heavily leveraged property players. 

A wonderful weekend to you as markets were mostly flat heading into the weekend. 
 

In brief (TL:DR)

 
  • U.S. stocks closed more or less unchanged on Friday with the Dow Jones Industrial Average (+0.10%) and S&P 500 (+0.15%), while the tech-centric Nasdaq Composite (-0.03%) was lower as concerns over the Evergrande Group's fallout lingered. 
  • Asian stocks closed Friday mixed with no news on Evergrande Group's missed dollar-denominated bond interest payments on Thursday. 
  • Benchmark U.S. 10-year Treasury yields rose 1.454% (yields rise when bond prices fall) marking a quiet end to an otherwise eventful week. 
  • The dollar rose. 
  • Oil continued to gain with November 2021 contracts for WTI Crude Oil (Nymex) (+0.93%) at US$73.98 on expectations of heightened winter demand. 
  • Gold regained ground with December 2021 contracts for Gold (Comex) (+0.11%) at US$1,751.70.
  • Bitcoin (-0.43%) stemmed losses and held at US$42,391 despite China's central bank declaring that all cryptocurrency transactions would henceforth be illegal, and with investors taking the opportunity to buy the dip as inflows slowing against outflows (inflows suggest that traders are looking to sell Bitcoin in expectation of lower prices). 
 

In today's issue...

 
  1. Evergrande's Bond Payment Comes Due & Passes 
  2. More Money Than You Know What to Do With? 
  3. China Bans Cryptocurrencies Once and For All 

 

 

Market Overview

 
Markets saw a muted end to an otherwise eventful week and will continue to be volatile until a clear and certain resolution is provided for the Evergrande Group's ongoing credit crunch. 
 
Beijing is likely to take comfort from the fact that so far the contagion has been contained to Evergrande Group, and looks prepared to allow the country's second largest real estate developer to suffer a little longer as an example to other heavily leveraged property players. 
 
Ultimately though, investors look to have priced in an eventual restructuring of some kind of Evergrande Group's staggering liabilities and appear to have priced that into markets for now. 
 
In Asia, markets ended the week a mixed bag, with Tokyo's Nikkei 225 (+2.06%) up, while Seoul's Kospi Index (-0.07%)Sydney’s ASX 200 (-0.37%) and Hong Kong's Hang Seng (-1.30%) were all down on continued concerns over Evergrande Group. 
 
 

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1. Evergrande's Bond Payment Comes Due & Passes

 
  • Evergrande Group's dollar denominated bond interest payments are missed, but nothing is heard from the company 
  • Relative calm in markets suggest that expectations are high Beijing will come to a settlement or some form of restructuring for Evergrande Group's debilitating US$305 billion in obligations 
 
In many circumstances, no news is good news.
 
But not if you’re a holder of Evergrande Group’s ill-fated dollar-denominated bonds.
 
On Thursday, a crucial deadline for the embattled real estate developer to make good on interest payments on its offshore bonds came and went, adding to the uncertainty unfolding at the world’s most indebted property developer.
 
By midnight in New York on Thursday, Evergrande Group (-11.61%) missed a US$83.5 million interest payment on its dollar-denominated offshore bond and so far no statement has been made by the property developer on the matter.
 
If Beijing intends to eviscerate its property sector and with it, 29% of its GDP, then it’s policy actions thus far have been contradictory to say the least.
 
China’s central bank has so far pumped some US$18.6 billion into its banking system, in an effort to shore up liquidity, but signs of stress are rippling into other corners of the Middle Kingdom’s beleaguered real estate sector.
 
The local office of developer Sunac China (-6.90%) in the prosperous Zhejiang province has appealed for “policy assistance” amidst what it has called a “turning point in China’s real estate industry.”
 
Evergrande Group faces total liabilities of US$305 billion and warned last month of the risk of default, which has pushed yields across the US$400 billion Asian high-yield bond market dramatically higher.
 
Hopes are high though that Evergrande Group will eventually reach some form of settlement, given that last week the property developer announced it had reached an agreement with onshore bondholders for a separate interest payment.
 
But short of Beijing stepping in to force China’s second largest property developer to restructure, Evergrande Group’s liquidity problems will continue to plague markets and contribute to volatility.
 
A US$45 million payment is due next Wednesday on another bond maturing in 2024 and Evergrande Group has some US$20 billion in outstanding debt obligations on international markets.
 
The good news (if it can even be called that) is that the bulk of Evergrande Group’s debt consists of onshore obligations and it’s almost a given that Chinese banks will enter into some form of settlement or restructuring, or risk taking down the entire Chinese financial system.
 
Unlike banks in other countries, almost all Chinese lenders are state-owned, and the race to shore up their individual positions at the expense of each other in an Evergrande Group default scenario is far reduced than had the bulk of borrowings been offshore.
 
In all likelihood, a settlement for China Evergrande’s offshore debt could be entered into, with lenders likely to get between US$0.40 to US$0.50 in the dollar, which would be a major victory given the circumstances. 
 
 

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2. More Money Than You Know What to Do With?

 
  • Surge in wealth creation and asset prices thanks to unprecedented fiscal and monetary stimulus has swelled the ranks of the rich 
  • Wealth manager ranks have not kept pace and demand is fueling M&A and private equity activity to invest in managers for a reliable source of income 
 
With central banks globally flooding the international monetary system with unprecedented amounts of liquidity, the ranks of the nouveau riche are swelling to the point where there’s more money than anyone knows what to do with, literally.
 
As the ranks of the wealthy have swelled, M&A activity in the wealth management industry has soared and larger financial services firms see an opportunity to expand by adding advisers who already have long-standing relationships with rich clients and the ability to reel in new ones.
 
Although the pandemic devastated large portions of the global economy, it also created vast pools of wealth as asset prices soared, with more money than there are managers.
 
And with yields and interest rates near rock-bottom, the demand for managers, let alone talented managers is soaring.
 
Private equity firms in particular are muscling in on wealth managers, with 8 of the 10 largest U.S. wealth management deals in the second quarter of this year direct investments by private equity firms, according to a recent Echelon Partners report.
 
Because the relationship between a financial adviser and client can last decades, wealth managers are an attractive proposition for buyout firms on the hunt for long-term sources of revenue to lock-in as the pandemic continues to roil markets and equities reach frothy valuations.
 
In June, a global wealth report by the Credit Suisse Group predicted that the number of millionaires globally would increase by almost 50% over the next five years to a whopping 84 million, from just 56.1 million at the end of last year.
 
Yet over the next decade, in the U.S. alone, the number of personal financial advisers is expected to grow by just a tenth of wealth, or around 5% between 2020 to 2030, according to data from the Bureau of Labor Statistics.
 
But the shortage isn’t confined to the developed markets of Europe and the U.S. as Asia has suffered a chronic shortage of wealth management professionals for decades.
 
The remarkable speed at which China was minting millionaires and the breakneck growth of Southeast Asia has fueled an insatiable demand for seasoned managers to steward growing fortunes. 
 
Bigger wealth managers are looking to expand through acquisition. 
 
 

3. China Bans Cryptocurrencies Once and For All

 
  • People's Bank of China declares all cryptocurrency activity illegal 
  • No significant policy shift in Beijing which had always pushed hard to crackdown on cryptocurrencies, but measure can be viewed as more of the same 
 
First, they came for the ICOs, but I did not speak up, because I was not an ICO.
Then they came for the exchanges, but I did not speak up, because I did not run an exchange.
Then they came for the miners, but I did not speak up, because I was not a miner.
Then they came for my cryptocurrencies, and there was no one left to speak up for me.
 
Cryptocurrency markets plunged on Friday as China finally threw down the gauntlet with the central bank declaring that all crypto-related transactions would be considered illicit financial activity, including services provided by offshore exchanges.
 
For good measure, the People’s Bank of China declared that cryptocurrencies including Bitcoin and Tether (a dollar-backed stablecoin) are not fiat currency (duh) and therefore cannot be circulated.
 
Beijing has long banned initial coin offerings (ICOs), cryptocurrency exchanges and its latest crackdown targeted miners.
 
But the Chinese have long circumvented Beijing's cryptocurrency curbs by moving to over-the-counter platforms and offshore cryptocurrency exchanges.
 
Yet it’s not immediately clear what effect the PBoC’s blanket ban on cryptocurrency transactions will have on the industry anyway, especially since the bulk of Chinese activity had moved offshore for years.
 
Some of the biggest cryptocurrency exchanges that cater to Chinese users have been based offshore for years and the recent crackdown on Chinese miners has actually helped to enhance the decentralization and therefore security of blockchains like Bitcoin.
 
For Chinese cryptocurrency miners, the crackdown in May was the last straw, with many relocating to places like Russia, Ukraine, the U.S. and even neighboring Laos, which recently legalized cryptocurrency mining and trading and has an abundance of hydroelectricity.
 
In reality, cryptocurrencies have been asset-non-grata in China for years, with traders and stakeholders having had to resort to a variety of methods to either gain access to trading platforms via VPNs (virtual private networks) or using a system of onshore over-the-counter service providers to go about their business.
 
And as Beijing has tightened its grip on a variety of economic activities, from video games to afterschool education, the scores of Chinese looking to spirit away their assets out of the Middle Kingdom has actually increased, with cryptocurrencies often the vehicle of choice.
 
Ahead of a key leadership test for Chinese President Xi Jinping next year, Beijing may be looking to roll out its central bank digital currency more extensively to cement its grip on the economy and the Chinese people, and cryptocurrencies represent a obstacle in such ambitions.
 
The digital yuan would make it substantially more difficult for capital flight out of China, and so long as cryptocurrencies exist in parallel with the fiat currency system, represent a systemic weakness to Beijing’s iron grip over its economy and the Chinese people.  
 
 

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Sep 25, 2021

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