Masters of the Finance Universe Are Worried About China

Are Investors Too Gloomy When It Comes to China?
  • Goldman Sachs echoes hedge-fund managers' currency concerns
  • Hedge funds reduce holdings in U.S.-listed Chinese firms

David Tepper says a yuan devaluation may be coming in China. John Burbank warns that a hard landing there could spark a global recession.

Tepper, the billionaire owner of Appaloosa Management, said last week at the Robin Hood Investor’s Conference that the Chinese yuan is massively overvalued and needs to fall further. His comments follow similar forecasts from some of the biggest hedge fund managers, including Crispin Odey, founder of the $12 billion Odey Asset Management, who predicts China will devalue the yuan by at least 30 percent.

The money managers are losing faith in China’s ability to revive its economy, which suffers from rising nonperforming loans and falling exports, after the surprise 1.9 percent currency devaluation in August and global market rout that followed. The investors made their dire forecasts after shares of U.S.-traded Chinese companies, which their funds sold in the third quarter, began to rebound in October.

“The downside scenario for China seems more intimidating than ever before,” billionaire Dan Loeb wrote on Oct. 30 to investors at Third Point, which manages $18 billion. “The new question is not whether but how severe the slowdown of the world’s foremost growth machine will be.”

Goldman Sachs Group Inc. on Thursday echoed the managers’ concerns, saying the biggest risk to a rebound in emerging-market assets next year is a “significant depreciation” of the yuan. Policy makers, facing a stronger dollar and slower growth, may let the currency decline, which would ripple through emerging markets, strategists led by Kamakshya Trivedi wrote.

“In our view, the fallout from such a shift is the primary risk,” the analysts said.

Hedge Fund Selloff

Hedge fund holdings of some of the largest U.S.-listed Chinese companies have dropped in the past six months. The funds owned about 8 percent of reported U.S.-traded shares of Baidu Inc. at the end of the third quarter, according to regulatory filings. That’s down from about 13 percent in the first quarter. Fund ownership of Ctrip.com International Ltd. sunk to roughly 16 percent from 25 percent in the period, and it declined to approximately 22 percent from 44 percent at JD.com Inc.

Appaloosa, Philippe Laffont’s Coatue Management and Burbank’s Passport Capital were among firms that axed holdings of these companies during the third quarter, filings with the Securities and Exchange Commission show. Appaloosa sold its entire stake in Alibaba Group Holding Ltd., Coatue shed seven positions, including 58.com Inc. and Bitauto Holdings Ltd., and Passport dumped nine stakes.

Shares of all of these companies except Bitauto Holdings have rallied this quarter, with Ctrip and Baidu jumping more than 50 percent. That hasn’t softened Burbank’s outlook, which has grown more pessimistic since the first half of the year.

Basket of Reserves

The People’s Bank of China forced the devaluation on Aug. 11, and said that it was shifting to a more market-driven system of setting the currency’s rate as it tries to meet the requirements for the currency to join the International Monetary Fund’s basket of reserves. Since then, the central bank commitment to a freer market approach has been questioned.

A gauge of the yuan’s strength is almost back to where it was prior to August’s devaluation. The real effective exchange rate is within 1 percent of a record high and has risen almost 20 percent over two years, according to a Westpac Banking Corp. index.

China’s economic growth goal of 6.5 percent for the next five years won’t be met unless the yuan falls at least 8 percent versus the dollar by the end of 2016, Royal Bank of Canada and Rabobank Groep said.

Burbank, the founder of $4.4 billion Passport, told investors in an Oct. 30 letter to beware of a China-led shakeout. The world may be heading into “a global downturn that leaves no region safe, including the United States,” he wrote. If economic conditions worsen in China, particularly with nonperforming loans, it could mean the end of the dollar peg for the yuan, lower interest rates and the liquidation of risk assets around the world, he said.

‘Central Bank Panic’

Burbank’s main macro fund has beaten most rivals this year, returning 13 percent through last month, according to a person with knowledge of the matter.

Elliott Management’s Paul Singer also warned about global contagion from China’s decline. Singer told investors in an October letter that emerging market countries are “choking” on U.S. dollar-denominated debt that was extended due to low interest rates and monetary stimulus. He said many emerging economies, which are in recession, are “scared to death” about even a 25 basis-point increase in U.S. interest rates.

While “muddling along” is still an option, Singer wrote that the world could face a more severe scenario like a “global central bank panic.” He said that policy makers will probably “double down on monetary extremism” in response to deteriorating economies in emerging markets and China.

Some managers have a more sanguine view of China.

No Doomsday

“We are not in the doomsday camp as it relates to China,” Taconic Capital Advisors, a $7.4 billion firm that seeks to profit from corporate events such as mergers, bankruptcies or spinoffs, wrote to investors on Oct. 28. “Growth has slowed, but not as much as some feared, and the Chinese government continues to have a number of levers to pull to support its economy.”

Whether China has the means to spur growth is a question for Burbank, who says that will be “enormously difficult” to pull off.

“We don’t think a trillion dollar stimulus like the one initiated in 2009 is likely in the cards again for China,” he wrote. “Investors should prepare for a worsening global economic environment and the potential for recessions in both the U.S. and globally.”

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