The Wall In Front of China’s Growth

Thank you for boarding today’s Daily Reckoning. Welcome aboard. Today’s tour of the ‘rim of fire’ takes us to rising economic superpower, the People’s Republic of China. All electronic devices must now be switched off, unless you’re reading this on a mobile phone, in which case, carry on. Our reading time today is approximately 15 minutes so please sit back and enjoy the tour.

Before we take off for Australia’s most important trading partner, though, two final warnings from the cockpit. First, please don’t send any complaints that this tour of the ‘rim of fire’ is too much reading or too much work. Figuring things out IS hard work. If you want a convenient explanation of things that shed no real light on Australia’s economic future, watch the evening news. Nothing worth having comes easy, especially knowledge. So suck it up and keep reading.

Second, ignore my ‘lethal weakness’ warnings at your peril. I’ve seen this happen now so many times that each stage of the process is almost predictable. My research uncovers an unpleasant and apparently unlikely conclusion: a rise in the gold price, a crash in the US dollar, a housing market bust, or a recession ahead. The research gets published in clear presentation with specific investment action to take provided. The research is roundly ignored by most investors until after the predicted events occur, at which time it’s too late to profit from it or avoid losses.

Now we come to the business bit of today’s reckoning. The expansion of credit by banks is one of the drivers of asset price inflation, including Australian house prices. In fact, Phil Anderson has said repeatedly that banks will create as much credit as society allows. What makes that statement even more interesting today is a list of the top 100 banks in the world, by assets, and how many of them are Chinese banks.

Two of five largest banks in the world are now Chinese banks, according to data published today by financial research firm SNL. The world’s largest bank, by assets, is the Industrial and Commercial Bank of China, with $3.174 trillion in assets. London-based HSBC is next with $2.758 trillion. Then comes China Construction Bank Corporation at $2.596 billion, Paris-based BNP Paribas with $2.595 trillion and Tokyo-based Mitsubishi UFJ Financial Group at $2.507 trillion.

You’ll notice there are no American or Australian banks in the top five. Bank of America comes in at number twelve with $2.15 trillion assets. And there are eleven American banks in the top 100 along with all four of Australia’s ‘Big Four’. NAB is 40th, with CBA at 44th, ANZ at 45th and Westpac at 36th. China has four of the top ten spots.

You could argue that the growth of China’s banks is directly related to China’s enormous over-investment in commercial and residential real estate — a misallocation of capital the scale of which the world has never seen. I’ll argue just that, and show you the implications for Australia, in a moment.

But let’s take another quick look at China’s rise up the global rankings. There are 95 Chinese companies on Fortune’s ‘Global 500’ list. That list measures the world’s biggest companies in terms of revenues. The Chinese companies on the list — including Sinopec and China National Petroleum, the third and fourth-largest companies overall — totalled $5.8 trillion in revenues, according to Fortune.

The US is still at the top of the table with 128 companies racking up $8.6 trillion in sales last year. Wal-Mart was number one and ExxonMobil was fifth. British firm Royal Dutch Shell took out the number two spot and the UK placed 28 firms in the top 500. What about Australia?

All the usual suspects from the ASX 200 showed up: BHP at #142, Wesfarmers at #158, Woolworths at #161, Rio Tinto at #201, NAB at #216, CBA at #226, Westpac at #288, ANZ at #352, and Telstra at #453. Of the companies that currently make up the top ten on the ASX 200 in terms of market capitalisation, only CSL missed out on the global 500 list.

There were 55 banks on the list, 40 oil and energy companies, and 33 car makers and parts manufacturers. Those were the industry groups with the largest representation on the list. That’s a bad sign if you see bankers as thieves, oil as evil, and cars as 20th century anachronisms. But is there any useful investment takeaway form the data? Yes!

If you think diversification in your portfolio is valuable, you need to look at some of the world’s biggest firms not listed on the ASX. The Aussie firms have a fair enough diversification amongst them: banking, materials, retail, and telecommunications. But if you only have Aussie companies in your portfolio, and not foreign businesses that operate all over the world to generate revenues, you’re missing out. More on that next week.

Read the rest of this article at The Daily Reckoning