Macro Monday:Another battle of RMB looming ahead

　　Oil price rose above US$50/bbl: Global risky assets rallied last week with oilprices standing above US$50/bbl for the first time since last Nov. As such, Hsharesalso rebounded by 3.5%. However, A-shares, which traditionally havea low correlation with global markets, continued to move sideways last week.

　　Disappointingly low trading volumes in both H- and A-share markets point tolow conviction level. It’s in line with our impression over the past two weeks inEurope and the US (link), where investors are struggling with the trendlessmarkets and numerous macro uncertainties. Mainland investors we talked torecently also show low risk appetite toward both stock and bond markets,while preferring safe havens like the dollar, cash and gold.

　　Calm market response to RMB depreciation, so far: The odds for asummer Fed hike have picked up since May, causing the US$ to strengthenrecently. Since the PBoC largely let the RMB follow the US$, the CNY fixingalso touched a 5-year low last Wed. Meanwhile, as the Yuan weakened inMay, China is likely to see FX reserves drop again after rising for twoconsecutive months. So far the broader financial markets have remained calmwith the depreciation. Interestingly, H-shares jumped 2.8% last Wed while onthe same day the CNY fixing sizeably depreciated. The spread between onshoreand off-shore RMB has also remained tight (Fig 44), suggesting thatinvestors are cautious in shorting RMB this time. It’s interesting to see howlong the markets could stay calm and how the PBoC is going to respond. WithUS$3.2tn FX reserves and capital control as weapons, the PBoC could easilywin a battle on RMB. But as an ancient Chinese adage goes, the supreme artof war is to subdue the enemy without fighting. The key is how to managemarket expectations well through verbal communication and daily fixing setting.

　　May data preview: recovery faded: Probably not too surprising to thosefamiliar with ‘mini-cycle with Chinese style’, which is the title of a report wewrote two years ago, the recovery since March has faded and growth has hita plateau. That said, the near-term downside is also limited given the supportfrom property and infrastructure demand (May data preview). For May, weexpect largely flattish PMI and industrial production growth, which is in linewith 6.7% GDP growth in 2Q16 (1Q16: 6.7%) and so-called “L-shaped”growth pattern. That said, with eased deflation pressure, nominal GDP growthin 2Q16 will most likely continue to accelerate. In 1Q16, it jumped to 7.2% yoyfrom 6.0% in 4Q15.

　　Healthy new loans after adjusting for debt swap: Some investors areconcerned about new loans in May. It’s possible that new loan number in Maycould continue to surprise to the downside (our estimation: RMB650bn vs. lastMay: RMB900bn). However, around RMB200bn local government debt swapwas carried out in May, based on our estimation. Adding that back, creditgrowth in May is fine, although not as exciting as in 1Q16. On a positive note,the concerns on CPI inflation, which surfaced earlier this year, would continueto ease in May with slumping vegetable prices. Meanwhile, cement pricescontinued to rise (Fig 28), pointing to robust demand from the property andinfrastructure sides. Overall, policy should stay put and the chance of a nearterminterest rate cut is small, although another RRR cut is still possible inJune. At this moment, the focus of policy makers is to normalize credit growthand cool down the property markets in certain cities while making someprogress on supply-side reform.