The main story of the Asian session is a decision from Moody’s to downgrade the Chinese rating to A1 from AA3 (while changing outlook to stable from negative). Here’s the reasoning:
- Rating reflects expectations that China’s financial strength will erode somewhat over the coming years
- Stable outlook reflects assessment that at the A1 rating level risks are balanced
- GDP will remain very large ; growth will remain high compared to other sovereigns, potential growth is likely to fall in coming years
- Economy-wide leverage will increase further over the coming years.
- Indirect and contingent liabilities to increase
- China’s growth potential to decline to close to 5% over the next five years
- Government’s direct debt burden to rise gradually towards 40% of gdp by 2018 and closer to 45% by the end of the decade
- Stable outlook denotes broadly balanced upside and downside risks.
- China’s local currency and foreign currency senior unsecured debt ratings are downgraded to A1 from AA3
- China’s local currency bond and deposit ceilings remain at AA3.
In our view, this justification could make sense. While the Chinese growth remains high, it’s there because the authorities do not make sufficient efforts to deliver private sector. A scale of indebtedness is so high that it risks a serious crisis down the road and thus a warning is well justified.
However, market reactions have been muted. We have seen a nearly 2% decline in Hong Kong traded Chinese stocks (CHNComp) but it’s nothing unusual for this volatile index. Elsewhere on equity futures there’s barely any reaction. The Aussie has been down 0.4% today against the greenback but one could notice that the sentiment in general turned in favor of the US dollar ahead of minutes (today in the evening, 7pm BST).
CHNComp remains in an uptrend on a daily interval but the bulls have failed to make a fresh high for a while. A correction could be well warranted and Moody’s decision could be one of the triggers. Source: xStation5
In fact, looking at the AUDJPY cross which is often a good risk barometer, we could see that the pair is trying to recover. So all in all there’s a good chance that the markets ignore this warning.