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Mid-year outlook: the recovery is moving forward with twists and turns, the currency tide recedes

Vaccines are expected to be basically fulfilled

  Since the vaccine was put into emergency use at the end of last year, a total of 2.8 billion doses have been vaccinated globally in half a year. This public health action, unprecedented in human history, is racing against the spread of the virus and the mutation of the virus strain.
  Judging from the global new crown confirmed data, the first half of the year showed a steep curve shape that first rose and then fell, indicating that technical intervention has had a substantial impact on the evolution of the epidemic (Figure 1). The new crown vaccine has proven its effectiveness in the real world. A study by the US Centers for Disease Control and Prevention (CDC) showed that Pfizer and Modena’s two mRNA vaccines have a protection rate of 90% 14 days after completing the second dose. Breakthrough infection occurs after complete vaccination, that is, the probability of being infected after obtaining immune protection is less than one in ten thousand. Among the Israeli population who received two doses of Pfizer vaccine, the number of symptomatic infections decreased by 94%, the hospitalization rate decreased by 87%, and the severe illness rate decreased by 92%.
  However, the cruel fact is that there is a gap in the effectiveness of the vaccine, and it is impossible to deduce “clearing” in a mathematical sense. Restricted by vaccine production and distribution, coupled with the manipulation of vaccine politics, it is impossible for humans to achieve “herd immunity” in the epidemiological sense through vaccination in the short term.
Figure 1: The number of newly diagnosed new crowns in the world has dropped rapidly every day

Source: Macrobond, China Merchants Bank Research Institute

  First of all, even if the vaccine supply is abundant, the vaccination willingness will greatly restrict the increase in the vaccination rate. As the high-willing population completes vaccination, the upward slope of vaccination rate will slow down significantly. This situation has emerged in countries with leading vaccination rates such as the United States and Israel, and there is still a considerable distance from achieving herd immunity.
  Secondly, vaccination in developing countries is obviously backward. The virus has mutated drastically in these areas, and its transmission capacity continues to increase. Breakthrough infection may destroy the vaccine defense line built by developed countries. Humans still have a long way to go to achieve true herd immunity.
  Virus mutation has huge uncertainty. Recently, the Delta mutant strain has spread rapidly, and the downward trend of the global confirmed infection curve has slowed down. The good news is that the effectiveness of several major vaccines can still be basically guaranteed. At the same time, scientists from various countries are still working day and night on vaccine development in order to introduce more effective medical solutions.
  From the perspective of Western countries, since the launch of vaccination, the infection rate, hospitalization rate and mortality rate have decreased significantly, people’s fear of the new coronavirus has begun to fade, the pressure on the medical system has been eased, people’s lives have gradually returned to normal, and economic activities have been quickly restored.
Global recovery: orderly

  China is unique, the epidemic is “first in, first out,” and the economy is the first to recover.
  After the launch of the vaccine, due to availability restrictions, economies will step into the “vaccine recovery” stage. Among them, the United States is the first echelon, and the economy has entered an accelerated recovery phase in the second quarter. As the vaccination rate reaches the upper limit in the third quarter, economic activities will basically return to normal.
  Europe is the second echelon. At the beginning of the year, due to supply constraints, the progress of vaccination in Europe was dragged down, but the current vaccination rate has surpassed that of the United States. It is expected that the vaccination rate will be equal to the United States in the third quarter, and the economic recovery will be about one quarter later than the United States.
  Most developing countries and underdeveloped countries are the third echelon. Due to the lack of funds, vaccines, technology and professionals, the “vaccine recovery” of these countries will significantly lag behind that of European and American countries, and it will take a relatively longer time for economic recovery.
  Under the pattern of cascading recovery, the economies of various countries are facing structural changes. The path of this change is to first restore production and employment, then gradually pick up service consumption, and finally return to normal macroeconomic policies. China’s “first in, first out” has basically completed this process. The United States, Europe, and other economies will also step into different stages of this restoration. This will have a continuous and dynamic impact on the pattern of the global economy.

China is unique, the epidemic is “first in, first out,” and the economy is the first to recover.

  First, look at China. my country’s production has returned to lead the world. While other countries’ production is still under impact, China’s production has shown a substitute role, which is clearly reflected in the growth of exports. In particular, cash subsidies from European and American countries have boosted consumer demand for commodities, and this part of the demand spillover has become a booster for China’s exports. However, as the global ladder enters the stage of production recovery, this substitution effect will eventually fade slowly.
  Second, look at the United States and Europe. As the vaccination rate increases, their production activities will resume, the supply gap will begin to narrow, and the demand spillover will come to an end. In addition, the consumption of contact services in the United States and Europe will pick up quickly, and the growth of commodity consumption will relatively slow down. As inflation expectations rise, the pace and intensity of policy return will continue to plague the global financial market.
  Finally, look at developing countries. At present, the epidemic is still severe in India, Southeast Asia and Latin American countries, and the virus continues to mutate. The recovery of production and supply chains in these countries will still take time. For China, some production substitution still exists. However, with the increase in vaccination and the gradual recovery of export capacity in Southeast Asian countries, the global supply chain will still return to the average of the pre-epidemic pattern. This turning point may occur in the fourth quarter at the earliest.
Re-inflation trading tends to converge

  Since the beginning of this year, global inflation has quickly entered an upward channel. There are three main factors that support the rapid rise in inflation: First, the global economy continues to recover, and cyclical commodity prices have risen significantly; second, cash subsidies in major developed countries have boosted residents’ disposable income; third, optimism brought about by vaccination promotes inflation expectations Up.
  Among the global economies, the trend of inflation in the United States has attracted the most attention. Since the major categories of assets are priced in US dollars, rising inflation in the United States will undoubtedly affect global asset prices and spillover to other countries, creating global inflation risks. Year-to-date, the US CPI has risen rapidly year-on-year, from 1.4% in January to 4.9% in May. As a leading indicator of actual inflation, the US breakeven inflation rate (5-year period) has risen from around 2.0% at the beginning of the year to around 2.57% at present.
  The rise in bulk commodities has its particularities. One is that economic recovery drives up demand, while the epidemic restricts the supply capacity of some producing countries; second, ample liquidity leads to increased market risk appetite and increased speculative demand for commodities; third, the continued depreciation of the U.S. dollar has increased through exchange rate parity mechanisms Commodity prices. Looking forward to the second half of the year, although commodity prices may continue to remain high, the year-on-year growth rate will tend to decline due to the fading of the low base effect. If the Federal Reserve sends a signal to reduce QE, the liquidity of the U.S. dollar will tighten, which may also curb speculative demand for commodities. Therefore, the price rise of bulk commodities is likely to slow down.

  In addition, cash subsidies in developed countries have come to an end, and their role in stimulating consumption has gradually diminished. In addition, the epidemic situation is still severe in Southeast Asia and Latin America. The mutation of the virus may cause a phased rebound of confirmed cases, and the optimistic expectations brought by the vaccine are not reliable. Therefore, in the second half of the year, the financial market’s worries about re-inflation are likely to tend to converge.
  The U.S. CPI year-on-year growth rate will show an inverted “V” trend of “high in the front and low in the back”, but the center of the year will still rise sharply to about 3%. As Powell said, US inflation may be “temporary” rather than “persistent.” The high point of the year appeared in May, and it gradually dropped to above 2% in the third and fourth quarters. Financial market expectations for inflation have stabilized, and daily frequency data has shown a downward trend.
  As far as my country is concerned, the “spillover” of reinflation in the United States is more reflected in the PPI and has a smaller impact on the CPI. The reason is that there is a good lead-lag relationship between the prices of bulk commodities and the prices of the means of production. In particular, the price increase of raw materials with high import dependence such as crude oil, iron ore, and copper, combined with the impact of a low base, drove the PPI to quickly turn from negative to positive, and it soared to 9% in May. After the low base effect subsides in the second half of the year, my country’s PPI will be significantly lower than the second quarter year-on-year. The overall year-on-year “high in the front and low in the back”, the center will be around 4.9% (Figure 2).
Figure 2: my country’s PPI year-on-year growth rate in the second half of the year will tend to fall

Source: Wind, China Merchants Bank Research Institute
Figure 3: my country’s CPI will show a “M”-like trend year-on-year

Source: Wind, China Merchants Bank Research Institute

  The impact of commodities on my country’s CPI is limited. Since March, the main driving force of my country’s CPI has changed from food in previous years to non-food. The repair of service consumption drives the core CPI to rise at a relatively faster rate year-on-year. Although the rising prices of crude oil and other commodities have led to an increase in the prices of transportation fuels and hydropower fuels, the increase in the supply of live pigs has led to a sharp drop in pork prices, making the CPI still at a relatively low level year-on-year. Under the influence of the continuous decline in pork prices and the slow consumption restoration, my country’s CPI will show a similar “M”-like trend year-on-year, and the center of the year will be around 1.2%, far below the policy target of 3% (Figure 3).
Roadmap for policy return

  With the accelerated recovery of vaccines and the establishment of a re-inflation trend, the tide of global ultra-loose macroeconomic policies will gradually recede, and the policy turning point will loom. The Fed has begun to lay out its roadmap for policy adjustment; the recovery process in Europe is one quarter later than the United States, and the policy shift is relatively lagging.
  At the June meeting on interest rates, the Fed issued a clear signal of a shift in monetary policy. The Fed’s consideration lies in the balance of the “dual goals” of employment and inflation. The 12-month moving average of PCE in May has approached 2%, but new non-agricultural employment has been continuously lower than expected. Non-agricultural employment is lower than the pre-epidemic level of 7.6 million people, partly due to the low employment participation rate, financial subsidies and child care have caused great friction on the job market. With the end of cash subsidies and the resumption of face-to-face classes, non-agricultural employment will substantially improve in the third quarter, and the employment supply and demand gap will narrow.
  Observing the recent actions of the Federal Reserve, combined with the withdrawal experience after the subprime mortgage crisis, the road map of the U.S. monetary policy shift is gradually clear, which can be regarded as a three-step process.
  The first step is to adjust the administered rates to recover excess liquidity. After the interest rate meeting in June, the Federal Reserve announced that it would raise the excess reserve interest rate (IOER) and the overnight reverse repurchase interest rate (ON RRP) by 5bp (basis point). At present, the Fed’s overnight reverse repurchase tool usage has risen sharply, and the balance has reached a record US$744 billion with the purpose of recovering liquidity.
  The second step is to reduce debt purchases and finally stop quantitative easing. It is expected that the Fed will issue guidelines for reducing bond purchases as early as September this year, and begin to cut back in real terms next year and end quantitative easing before the end of the year.
  The third step is to enter the interest rate hike cycle. The current bitmap implies 2-3 interest rate hikes in 2023. At this point, there is still a big uncertainty. It is expected that the Fed may adopt a strategy of slow start and fast acceleration. Delay the start of interest rate hikes in order to complete the “broad and inclusive” job repair; then quickly raise interest rates to curb inflation expectations.
Raise the forecast for the external economy and lower the forecast for the Chinese economy

  Compared with the global economic forecast for 2021 at the end of last year, we have revised up the external economic growth forecast, including the US economic forecast from 4.5% to 6.8%; China’s economic forecast is slightly lowered from 8.8% to 8.6%.
  The increase in the US economic forecast is mainly due to the “Fiscal Stimulus Trilogy” of the Biden administration, including the US$1.9 trillion “U.S. Relief Plan” that has already been introduced, and the US$1 trillion “U.S. Jobs Program” that is being seen in Congress ( 5-year period) and the US$1.8 trillion “American Family Plan” (10-year period). The first part deals with the impact of the epidemic; the latter two focus on medium and long-term infrastructure and social security. No matter what the final compromise between the two parties is, it will be a huge fiscal stimulus that will inject vitality into the US economy. In addition, due to the accelerated vaccination, the public health situation has improved significantly, and the service industry in the United States will accelerate its recovery in the second half of the year, which is expected to achieve a stronger rebound.

Biden’s new fiscal policy will inject vitality into the U.S. economy, superimpose vaccinations to speed up vaccination, accelerate the recovery of the U.S. service industry, and accelerate the recovery of the economy.

  The main reason for the downward revision of China’s economic forecasts was that the progress of fiscal expenditures in the first half of the year was obviously slow, the progress of new infrastructure projects was not satisfactory, and the restoration of consumption was also less than expected. Coupled with the recent recurrence of the new crown virus in some parts of the south, high-strength epidemic prevention measures have suppressed travel and consumption, especially in Guangdong, which is a major exporting economy. In the second half of the year, my country’s finances have significant post-location features, especially the issuance of special bonds may accelerate. However, the post-installed special debt financing enters the project implementation link, which may be delayed until next year. In terms of exports, the original judgment is maintained, that is, there will be an inflection point where the substitution effect will diminish in the fourth quarter.
Investment strategy: positive factors still dominate the market

  In the first half of this year, the US stock market clearly outperformed the world, and the rationale is obvious. Vaccination is progressing satisfactorily and economic recovery is accelerating; Biden’s fiscal New Deal is huge; consumer savings levels have increased, corporate inventories are low, and earnings forecasts are positive. Although the market valuation is not cheap, at the current low 10-year Treasury bond yield, the possibility of killing the valuation is extremely low. The S&P 500 index earnings per share (EPS) forecast is above 40%, and the bull market is expected to continue driven by performance.
  Since the beginning of the year, the Chinese stock market has underperformed the global market, but the structural market is obvious, and cyclical stocks have performed well. “First in, first out” led to the first return of monetary policy, and the context of style adjustments is clearly visible.
  Looking forward to the second half of the year, although uncertainty still exists, positive factors will dominate the market. On the one hand, the liquidity conditions have stabilized, the central bank has no intention of beating the market, and the targets of “stabilizing growth” and “stabilizing inflation” are in a desirable range. Funds are relatively stable, overall easing is moderate, and the general liquidity gap is converging, restricting the upward space of interest rates. If the economy shows signs of weakening or corporate credit demand declines significantly, the central bank may increase its liquidity investment to ensure that liquidity is in a loose pattern. On the other hand, the profitability of listed companies has improved significantly. Since the beginning of the year, the rapid increase in PPI has led to the rapid expansion of the PPI-CPI scissors gap. The profits of upstream companies have maintained growth year-on-year, and the profit growth of mid- and downstream companies has been squeezed. In the second half of the year, the PPI-CPI scissors gap will gradually narrow, and the marginal relief of the squeezed profits of mid- and downstream enterprises will be relieved. The investment style gradually tends to be balanced, the cyclical product market is still warm, and the opportunities for growth-oriented companies are differentiated. Small and medium-sized growth can be optimistic.
  In short, we are at an important crossroads. Although there are uncertainties in the ebb of currency, the global economy is already on the road to recovery. For the stock market, positive factors still prevail.

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