Jim Chanos, the founder of short-biased hedge fund Kynikos Associates, has been questioning China’s growth numbers since 2010.
Now — with a recent currency devaluation, flailing stock market indices, debt at 280% of gross domestic product, and manufacturing data flashing 2009 numbers — it looks like his China call was a prescient one.
But the story’s not over. Even as more investors come around to his way of thinking, there are things Chanos still thinks the world doesn’t understand about China.
He shared five of them with Business Insider.
“China’s GDP figure is for politics, not economics.”
China has consistently hit its GDP growth target despite the fact that key sector indices have been lagging for over a year.
“Eighty to ninety percent of the financial community is looking at this number,” said Chanos, “and it’s meaningless.”
What it can tell you, according to Chanos, is that China isn’t really reforming its economy. It is not transitioning from an investment-based economy to a consumption-based economy as leaders have promised. Fixed-asset investment was 48% in 2010 when Chanos started looking at the economy. It’s now down to 46%.
Those numbers “still drive everything.”
“It’s all about the debt, not equity.”
The Chinese stock market is dominating the headlines, but Chanos thinks the real story is the country’s debt to GDP ratio.
“Chinese debt growth has been 2-3x nominal GDP growth every year,” he told Business Insider.
“This is problematic because we go into this year with debt three times GDP. If you do the math, and even if the country’s GDP is growing at 5%, and debt is growing at 10%, in another six years we’re going to be at 400% debt to GDP.”
“Trade and currency flows are becoming important again.”
Many analysts took China’s recent currency devaluation as a sign that it wants to boost exports. Chanos agrees. The country will have to use its foreign-exchange reserves to keep the yuan at an optimal rate to make its exports attractive.
“When the Chinese make an initial policy announcement, pay attention to it, it’s usually the first step,” he said. This is likely not the last we’ll hear of the government intervening to devalue the yuan. As a result, capital flight has become a concern for observers.
By Kynikos’ calculations, China’s exports started to slow down markedly in the middle of this year.
“We’re also watching things like shipping rates, which have collapsed, and trade flow numbers where we can get them,” he said.
“Ignore politics at your own risk.”
“What we know about Xi’s regime is that it’s a bit different from the old … regimes,” Chanos told Business Insider.
“Even in the realm of business and finance there are signs you have to be aware of that you wouldn’t have to in the West.”
Take the country’s ongoing anti-corruption drive for example. When an executive is under investigation, their company will start to trade lower.
Take Macau for example. The gambling mecca has been absolutely pummeled by the government’s crackdown on gambling. The writing for that was on the wall in early 2014, when the government started restricting visas and implementing other policy measures.
Chanos sees the same thing happening to the internet industry in China.
Xi “sees the internet differently than other leaders,” he said. “It’s a power base he can’t control… and quite frankly China is afraid of it.”
“The best way to be short China is not to be short China.”
“We are not and have not been short the Shanghai index,” Chanos said. In fact, Kynikos is long Shanghai A-share ETFs to hedge its portfolio.
Instead of shorting Shanghai and Shenzen, Chanos looks at industries and asset classes that will be impacted by a Chinese slowdown — like the mining sector and commodities. He also looks at the country’s neighbors and trading partners.
“People who have been making money in China are doing it from the first and second derivatives,” he said. “Shanghai is fun to watch but it doesn’t really tell you, A.) about what’s going in China or B.) where the big money is.”
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