China's Economic Revival & Saudi's Shift in Oil Strategy

All right, welcome back to our trading floor discussion of the week, and there are two major topics. And for a change, we're not really going to be talking about the US and the US stock market, and that's because there are some other really quite major events that have happened which we're going to dive into. One is about China unleashing its boldest stimulus in years to boost its ailing economy. It's a headline you might have seen earlier in the week and certainly one that has ramifications far and above just the Chinese economy in itself. And, and Piers will unpack that for us in terms of how markets have reacted. And in the second element, it's kind of related in a way. It's Saudi Arabia. They're ready to abandon their $100 crude target to take back market share was the FT headline, and we'll also look to deconstruct that. Hopefully this discussion will be super useful for this time of year, because when you get that inevitable question, tell us about some stories you're following in markets, or indeed tell us what's going on in the global economy, these would be very nice additions to that US rate discussion. So Piers, on that note, let's talk a little bit of China. I don't know why I say it like Trump style.

Well, actually, on that note, just before we dive in, I mean, that point— yeah, we've had a busy week because, well, you've been out in Dublin talking to young people about jobs in finance with running a Bank of America session. I was at Goldman's yesterday with— they were running a women in a sort of Women in Markets program and a Women in Banking program. I promised a shout out because, yeah, I don't know what it's like for you at going to these events. You often get people coming up, go, I listen to the podcast and, um, you know, it's amazing and, you know, help me get to where I am right now today, as in, you know, at Goldman's on one of these programs. And, um, there was a girl from Durham called Gia, Gia Avathi, who was super impressive. And yeah, a podcast fan, and I promised I'd give her a shout out. So awesome work to the candidates at Goldman's yesterday who were, as you'd probably expect, very impressive.

Yep. Yeah, I got spotted a few times in Ireland, but, you know, going back to my motherland, I'd expect no different. Don't be fooled by my Chinese surname. I, you know, I, I do get about town.

But, um, so yeah, the point is, the point is, right, it's about the US interest rate story has been flogged to death, primarily by me. So, uh, I apologize for that because this tends to be all that we bang on about. So it's fantastic this week, all of a sudden, to get two big, big, big stories that are hitting the tape, and both of which I think can have some pretty big domestic— certainly domestic implications for China and then Saudi for these two different stories. But actually, I think both can have a potentially reasonable-sized impact globally. And so I think actually it's a great new set of catalysts, uh, potentially for markets and for maybe economies. Let's see, um, into year-end. So I think that, yeah, if you're if you're sat in front of an interviewer in the months to come, these two stories could build and become, you know, some topics for conversation.

Yeah, and I guess one of those interview techniques is the rule of three. So kind of structuring an answer saying, I think this because of 1, 2, 3, and conclude with that opening statement. So what's good about this Chinese story? Perhaps you can talk us through it because you could just say superficially there's stimulus, and that's moved the markets in a positive fashion. But you could go one step further and break this down into three distinct elements, right?

You could, and you could say that it's interest rate cuts, you could say that it's measures to boost the property market, and you could say it's measures to boost the stock market. You could even add a fourth— they've been a bit vague on it— which is more traditional fiscal stimulus. So So there's 3 or 4. Basically, let's take a step back. China's economy is in trouble, relatively speaking. So they have this, you know, they have this sort of process where the Politburo, you know, headed by Xi Jinping, you know, they're in charge. And like every year they set out a growth target. And so they set out a GDP growth target for each year. Again, this year is 5%. It's just that here we are, three-quarters of the way through the year, and they are not hitting this 5% number. Where they are, I don't know how many people know the answer to that, because as we've gone through the year and increasingly and increasingly the economic momentum from a whole bunch of different measures seems to be deteriorating and deteriorating, you're getting these— some headline numbers staying quite solid, and it's like, well, hang on, That does just does not make any sense. And there has been a reputation for China in the past to massage some numbers and deliver a number that's perhaps not the reality, or they've just pulled the data entirely. One specific example: youth unemployment. They just stopped reporting it. I think it was last year, um, or was it start of this year? And because the youth unemployment rate was going up and it was going up and it was going up, and it's not a good look for the Communist Party. And so they just decided to stop reporting it. Um, so they, they use tactics like that to try and just hide the fact to the masses that things aren't going as well as they wanted them to anyway, right? So we don't know where they're at. We do know that the economy's definitely not on target. So we've been, we've been, we, when I say we, let's just qualify that, like commentators, economists, traders have been going, where's the stimulus? You know, why aren't they pushing the button on this stimulus? They've done it in the past. I mean, you know, certainly been COVID, certainly back, you know, in the financial crisis back in '08-'09, they went big, I mean huge, in terms of a stimulus program. And this year there's just been nothing. I'm like, well, what, what's going on? And so it's about time. And this week they've basically, for whatever reason, the Politburo have decided, all right, it's time to push the button. Why they've waited this long, I don't know, but they've pushed the button. And every day this week, well, sorry, on, on, uh, when was it, on Tuesday, on Wednesday, and on Thursday, we've had key announcements from different— either the central bank or from the government about stimulus. And it's been a 1-2-3 punch, and we'll talk about the specifics in a second. But the reaction in markets has been pretty sensational when you're looking at things like Chinese equities in particular. So the Shanghai Composite, for example, has traded— I mean, it's gone up 10%, more than 10%. This week off the back of these, um, various sets of measures. Now, I do, do understand that this stock market has been trending lower since the summer of 2021. So, I mean, literally we've got a 3-year downtrend. And just last week or 2 weeks ago, we actually— can you believe this— the Shanghai Composite hit the lowest level since 2019. So it's now lower than pre-COVID, um, and it broke a really key kind of technical level. The January low of 2024 was a double bottom with the, uh, March low of 2020, and then it was a low in the sort of autumn of 2019 as well. This technical broke, and one of the stimulus measures that's been announced is very, very, very specifically addressing the underperforming stock market. And so since this news, bang, it's rallied over 10%, uh, and we're at right up on the key 3,000 handle now on the Shanghai Composite.

Um, when you were discussing, um, the timings and why this was so surprising, do you think that the Fed going for a bigger cut and U.S. equities going to record highs— you've just said there, so there's an increasing divergence of let's say, public mainstream visibility. So if I was in China and let's say there's retail, quite heavy retail participation in the market, and the US is at record highs and China's consistently falling, so do you think it kind of marries up a bit to give some catalyst for action?

100%. 100%. And, and also, you know, I think So generally, yes, that's a general point. I think specifically in the last couple of weeks, there's two things that have happened that have also now gone, right, we need to hit the button. Number one, the Fed went big on a rate cut. So that really opened the door because the value of the yuan is a very key thing for China and their kind of manufacturing and exporting economy, right? And when the Fed cuts big, well, then the dollar depreciates and the yuan's value goes up. Right? And actually, for an exporter, that's not great. So the fact the Fed went big really opens the door for then China to stimulate, and their stimulus will then weaken back their, their kind of currency, right? And so you've kind of got this currency play based on the Fed going big, and then secondly, yeah, the stock market breaking that, that key level. Um, both of those two things, along with your more general point through this year of S&P new highs Shanghai Composite new lows, that, that's not a great look. So they've hit the button.

Yeah. Okay. Well, look, let's just— if you can subsume then the 3 elements or 4 that you said, so starting perhaps with the cut in itself.

So rate cut, benchmark interest rate cut. Um, so just a normal sort of traditional 0.5 percentage point, um, cut. And then they cut something called the reserve requirement ratio, the RRR. Um, this is just the, the central bank controlling the amount of reserves that the banks in the banking system have to have, you know, on account. So them cutting that essentially gives the banks license to lend more money, okay? Um, and so that, that's always a catalyst. And then they also cut the mortgage rate, um, and they also— a second point on the housing market, which of course has been one of the well, the big catalyst towards this economic downturn for China. So they cut the mortgage rate, which is more of a longer-term rate, and they cut the, uh, the amount that the deposit required to buy a second home. Um, so they've lowered the amount you have to put up front as a deposit. So all of this is kind of designed to, well, A, boost the broader economy, but B, you know, specifically aimed at that housing market that's of a particular problem. And what's surprising about this, the Politburo, they don't normally meet in September. So if they all of a sudden come out with rate cuts in September, it's like, wow, okay, that clearly goes back to our point around the timing. Um, and you know, these things, the Fed cutting and the stock market breaking lower, they've kind of— right, we needed it. This is an emergency cut. Let's not beat around the bush here. It's an emergency rate cut.

I'm guessing that what is something to understand though is that we get so fixated on the Americans and the structure. It's an emergency cut in a sense of in comparison to the US formalities, but China pretty much always goes off the cuff. So this isn't surprising in terms of how China— if you're a China watcher, perhaps not so surprising.

That, that's true in that they never telegraph when they're going to change rates. They just come out and say it. However, we did get, well, for them, what was unprecedented forward guidance. So normally with the US, right, they're like Guys, you know, like 3 months in advance, they're like, we're going to cut in 3 months, we're cutting, we're cutting in 3 months. And then you get there to the rate cut and they cut, but then they're talking about what they're going to do in 3 months' time, right? This, this big runway of, um, you know, quite detailed expectation of what they're going to do. With China, no warning, we're just cutting, and then they won't say anything about the future. But they did this time when they said, actually, yeah, we're cutting, but actually we're, we're, you know, we're potentially going to cut further. In the near term, which for them, whilst that's very vague, for them, that's almost unprecedented, um, giving that kind of guidance. And they even had a, they even had a press conference. Did you see that? I mean, um, what is going on?

They must have hired a new, uh, comms guy.

Um, but look, that's a rate cut, right? Rate cuts, whatever. Well, I, what I love is the second part of this, which is basically an unashamed package of goodies to specifically boost up the stock market. Um, so number 1, uh, there's a $114 billion— so US dollar— lending pool that they've announced. And by the way, if this, if this is successful, this strategy, they're gonna increase that. All right, but it's currently $114 billion. Now what is this pool for? Is for asset managers, insurers, and stockbrokers to borrow at really cheap rates, but they can only use that money to buy stocks. And the collateral that they can put up for the loan includes things like stocks. So if they, if they already own some stocks, they can go, look, I'll borrow off you the government super cheap. I'll put up some equities for my collateral, and then I'll take that cash and I'll just buy more. Um, this is genius. So the stock market's obviously just done one to the upside to the tune of 10%. Um, whether it's sustainable, we'll see. Second part of this lending pool, they're also— so that's to find— so non-bank financial institutions can borrow and buy stocks. Then just any company that's publicly listed, they can also borrow from this fund really cheaply, but they have to use the money to buy back their own shares. So it's cheap funding for share buybacks. And look, why are they doing this? It's— well, obviously the stock market's been trending lower for 3 years, but it's just not a good look, right? Especially when the US is booming. And so, and it's also, it's really a proxy in some ways. How well is your stock market doing is essentially a proxy for how well are you doing as an economy. And so I think it's, it's in a way, it's just trying to boost that kind of, uh, I guess the, the population's opinion on how well we are doing as a country which of course is connected to how well is the Communist Party doing in running this country. And so it's just trying to use that stock market as a catalyst to change sentiment, I would say.

So to conclude on this, this subject then, taking it back to the bigger global macro picture.

Yeah.

And we are discussing how aggressive are the Fed's going to be in this rate cutting cycle? How fast and how deep does that go? What does this Chinese action and commitment now through this newfound forward guidance mean for this soft landing scenario?

China are the second biggest economy in the world. APAC is obviously very dependent on that monster economic system in Asia. So of course, Chinese economies— let's say if China, if it works, by the way, and that's a whole other conversation, is this enough? I mean, this stimulus very, very broadly, roughly speaking, is only one-third of the size of what they did back in 2008. But so will it work or not? We'll see. Is it big enough? We'll see. Are they going to add on top of it? We'll see. So all these unknowns, but let's say it works. Well, then this is important for China, it's important for APAC, and it's important for the world because they're such a massive part of the global economic system. I guess as an example, just today— because by the way, their final announcement this morning was really from the government fiscal side, where they said we're going to issue and use government bonds to better implement the driving role of government investment, we're going to promote the real estate market to stop falling, and, and we're going to try and stabilize it. We're going to support property developers. Uh, we should increase the intensity of counter-cyclical adjustment of fiscal and monetary policies. This is what they said today. So add that on, okay? And so what's happened? Well, uh, the DAX, German stock market, is up 1.2% this morning. Nothing's happened in Germany. There's no announcements from Germany, there's no economic data in Germany. It's up 1.2% because of the China news. The Paris index, the CAC 40, is up 1.4%. Being— it's being driven by the automotives and the luxury goods sectors because, well, these luxury goods sectors, they're hugely dependent on the, the rich Chinese consumers, right? And so this directly feeds through. So look, this This is a— along with the Fed rate cuts, I'm not saying a big rate cutting cycle from the Fed, I'm not saying that's equivalent to this Chinese news. It's not. The Fed making its move obviously is the most important, but this Chinese news is pretty big, and added together, you know, certainly going to help things. And, you know, S&P's broken new highs, and so there's definitely some animal spirits and positive sentiment out there as a result of the China move this week.

This is why I always remain a glass half full kind of guy, because as well, if you put the cultural element in of the face on the global political stage, plus once now Xi is committed to this course of action, this action cannot fail and will be topped up. I can tell you that now. And so there is no ultimate collapse of China, short term at least. But, um, yeah, yeah, I'm definitely of that view. There will always be a way to financially engineer a positive outcome. My famous last words. Um, all right, so let's, uh, let's move on and let's talk a little bit about oil in Saudi Arabia. So the kind of headline that the FT were running, because it was citing 'people familiar with the country's thinking.' So just to decode that, if you're reading financial news, that's basically legit, credible, grade-A source. Uh, the FT always used the word structure of 'people familiar with the discussions' or 'the thinking.' Other news agencies will use just 'sources,' for example. But what these sources were saying is that Saudi is ready to abandon its unofficial price target of $100 a barrel for crude as it prepares to increase output, and this being a sign that the kingdom is resigned to a period of lower oil prices. So perhaps we can just, you know, not everyone's going to be aware of the changing of powers and a bit of context here, because still to this day, if I go to a lecture theater and I ask the students, who do you think produces the world's most oil? Saudi actually still comes first nearly every single occasion. Which is obviously becoming increasingly more incorrect as the months and years go by. So yeah, unpack this one for me.

Well, yeah, it's an interesting one, this. So where do I start? You basically got— I would say you've got 3 big producers of oil, um, the big 3. So you've got the US, Russia, and Saudi. Okay, you've then got OPEC. Who are the other less— slightly smaller producers than Saudi. You know, a lot of those OPEC-producing nations are all in the Middle East, like Iran and Iraq and Kuwait, for example. Um, and you've got this body called— so OPEC, and then you've got OPEC+, which is actually where Russia come into the club of OPEC as well. And the idea historically is that it's nicknamed the oil cartel. Right, where OPEC have decided on whether to increase or reduce production. And because they've had such a large control over the proportion of global oil that's being produced, because they have such a large control, they basically can control price by either— if they want price to go up, they just decide, right, we're going to cut production. If they want price to go down, they just decide, right, we're going to increase production. So really, they've been that sort of, yeah, the cartel that just controls it, okay? And certainly when Russia comes in, but it's very political. They don't always see eye to eye. It's a real nightmare of a committee. And then they finally make decisions, and sometimes they make concessions because some people don't want to cut and all this stuff. And then they go away and they implement what they've decided. Except that half of them don't. And so it's a bit of a nightmare for Saudi Arabia, who really are the, the key figure who control that OPEC group. All right, so they just— so they've been cutting production since November 2022. All right, a couple of things have happened. We had the Russia invasion— uh, Russia invaded Ukraine, which flicked up the oil price. And the oil prices spiked higher, okay? Then OPEC have been cutting production to keep oil prices up there, all right? It's just that what's happened is because of things like China's economy slowing, you know, China's one of the biggest, they're the second biggest consumers of oil behind the US, right? And so if you've got one of the big consumers whose economy is is in a bit of trouble, their demand-side factors dampen. And so as a result of this, even though OPEC have been cutting production to try and keep prices up, prices have been drifting lower. Okay, and actually what happened last week was quite an important— I say last week, it was the 20th, sorry, it's what happened really, well, yeah, last week, I'm gonna call it last week. Oil prices dropped, like WTI dropped below $70 Uh, Brent crude dropped down to $73. Okay, now $73, that actually broke the low from back in March 2023, and so it meant that the oil price hit the lowest we've seen since December 2021. And yet OPEC have been cutting production because they're supposed to be trying to keep prices up, and here they are breaking to a new 3-year low. And so it's like, why? Well, yes, China slow down. But there's another key element to all of this, which is US production. They're the outlier. So as OPEC have been cutting, or trying to— I'll come back to the intricacies of that in a second— although OPEC have been cutting, like 2 million barrels a day has come off their output, the US have been increasing production to kind of counterbalance it. And so what you've had really is OPEC have just lost market share. The actual amount of oil being produced per day globally hasn't changed. It's just OPEC's portion has gone down and the US proportion has gone up. The US are now standout biggest producer in the world. They produce more than 13 million barrels per day. Uh, Russia are at 11 million. Saudi, they're now below 9 million. And they haven't been below 9 million, like, since I think it's 2011. You've got to go back to, to find the last time they were producing such a small amount. And so whilst those big 3 players used to all be around the kind of 10-11 million barrels a day mark, if you go back a few years, there's been this radical shift where Saudi have dropped off and the US have stepped up.

Perhaps you could just explain then Saudi needs higher oil? Like, why is this headline talking about specifically $100 a barrel?

Right. So if you think about these big oil producers, well, then the vast majority of the government's revenue comes from its oil exporting. And actually, you'll have to fact-check it, but I certainly know going back 5 years— this is an old stat, but certainly about 5 years ago— 87% of Saudi Arabia government's revenue was from selling oil. Okay, therefore, well, what's the price? How much do they sell it— selling a barrel for becomes obviously incredibly significant towards how much money the government have got to spend on stuff, right? Now you've got MBS, this, this young crown prince that came to power a few years ago, and he's got this new strategy of trying to you know, I guess, evolve the Saudi economy and evolve it away from being so dependent on fossil fuels and just try and modernize it. And with that has come this just extraordinary spending, um, outlay in all sorts of stuff. I know you and Stephen talk a lot about, um, their investments into sport, um, huge amounts of money going in, right? They've got this, you know, There's so many projects around tourism that are going on, and this costs a huge, huge, huge amounts of money, right? And their outlay and their strategy has been based on the price point of $100 a barrel. Basically, this is what we're going to do to evolve our economy. It's going to cost X, which means we need to sell oil at $100. So that was their strategy, and Has it worked? Well, the last time we were above $100 on Brent crude was July 2022, and we'd spent just— I mean, this was off the back of the Russia-Ukraine situation. So Feb 2022, Brent spiked above $100. It stayed there till July. It dropped back below it, and it's been in a range between, let's call it, $95 and $75. Ever since, until now, where it's broken below that range. So we're now— I think basically $100 is now a pipe dream given that the US are producing a lot more and China's slowing down. Obviously you can throw into the mix more longer-term factors such as the world pivoting away from fossil fuels more into sustainable, cleaner energy. I mean, that's a long-term thing, right? It is happening, but you can add that into the mix as well. So yeah, they need $100, but they ain't gonna get it.

Okay, so in summary then, the Kingdom is deciding that they're willing to— or not willing to cede any more market share. Then when they— one thing I read was about then where they're going to source these alternative funding routes. So if you're not making money from oil, where else are you going to get it, given the composition, as you said, of their revenue stream? So they were talking about tapping foreign exchange reserves, one, and issuing sovereign debt. But sovereign debt, I remember they only issued their first ever bond within the last several years, which will probably blow most people's minds comparing that in the Western developed world. That's absolutely how the foundation rock of how governments work.

They're lucky they haven't needed to borrow money, right? Because they've got this just unbelievable large resource in the ground that they can mine and sell. So they, they just haven't needed to. But yeah, as I said, with that long-term shift away from fossil fuels, yeah, I guess there's a long-term shift going on in terms of the that government funding equation. And they are right to start looking at these alternatives, and it's going to be needed, right? And so yeah, they're lucky in that they don't have any debt, you know, they don't have a deficit. And so, you know, they're starting from a clean piece of paper, and you know, Western governments would saw their arms off to be in that kind of, uh, sort of fiscal position. But I guess the main point here about the news this morning is basically— so Saudi Arabia, just to be clear, they've abandoned their $100 price target. They've abandoned it. Basically, to me, this is them saying, look, our strategy's failed. And it failed because, yes, the US are pumping more, yes, China's slowing down, but it also failed because of the internal you know, dynamics of OPEC, because they meet as a group and say, right, we're going to cut production, everyone, and then they go back home and basically no one does. You know, Iran increased production, much to the annoyance of Saudi Arabia. So it's been left to Saudi to shoulder almost all of these production cuts. But as I said, they're just losing market share. So it's the— what they have, the worst of both worlds now. Where they're producing less and the price is dropping. It's like a double disaster. So they've decided, hands up, strategy's failed, let's flip it. Now there's precedent here because they did this in November 2014 for different reasons, but it was the same strategy shift. You know, it used to be let's cut production to boost up prices. But in December 2014, they said, we're flipping, we're going to increase production to drive prices down. This was all about trying to outcompete with the American shale producers. The shale production industry in the process is much more expensive. I won't go into the details of that, but back in November 2014, the price of oil went from like $75 down to $50. Sharpish. You know, in the space of literally like a week. This isn't as dramatic, but they are essentially doing the same thing in one, in one respect where they're saying that our strategy of cutting to keep prices up has failed. So let's just increase production. Yes, prices are gonna come down, but look, let's at least get some of our market share back. And in the meantime, let's look at some alternative sources for government revenue. Plus, let's wind in some of these crazy investment plans. I mean, you know, they, you know, the wall they're kind of building in the desert. I don't know where we're at with that. I think it was supposed to be 3 kilometers long, the initial thing. I think, I think we're down to like a few hundred meters now. So they're kind of shrinking back on some of these more outlandish investment projects as well.

And I guess long term, is there— we've got a US election coming. It's definitely not a done deal in a sense of Kamala Harris winning. Trump and the kind of period of making America great, um, kind of protectionist policies, being self-dependent, friction between them, Saudi increasing, but then at the same time you've got China and Russia, and Russia very key in as a— also US, let's say US have gone off and done their own thing, that could almost accelerate as it did over the initial period of Trump's presidency. Could that draw second and third place producers closer together? And then obviously that's within the alignment of China as well with their relationship with Russia.

There's so many angles to this. I don't— my head just kind of spins. I mean, it could be, right? Because some— where, where do Saudis' allegiance sit? I mean, it certainly used to be they were aligned to the US because the US was such a big customer buying their oil. The US don't buy any oil off Saudi anymore. Basically, they produce all of— pretty much all of what they need themselves, plus a bit from Canada and a bit from Mexico. So the US aren't really a customer. So, you know, Saudi shifted away from that. So, you know, because one argument, like, if this happened 10 years ago, one argument could have been, well, this is Saudi, they're in the US's pocket, and they're, they're increasing production to reduce the oil price to hurt Putin, who needs oil revenues to continue with this war, right? That could have been a thesis. A conspiracy theory. No, I, I don't buy that for a second. Now that, that— I think that whole, that whole thing is, is gone. So I, I don't know whether it's— I don't know what the political ramifications behind the scenes are on this. I personally prefer to just think Saudi are just thinking selfishly here, and they're just saying we got our strategy wrong. And it's actually really hurting us and we need to change. Um, I think they're just a bit fed up with OPEC, uh, and Russia, and they're just— I think they're just cutting loose and just now looking after themselves. That's my, that's my view. But I will say, and maybe to kind of finish, back to this whole idea of the global system and what does this mean. Well, what this means is probably you've got oil prices trending lower now, all right? They've broken lower to a 3-year low. I, you know, I reckon you're definitely bearish oil, right? So the price of energy is going to drop, which is that third kind of positive catalyst globally. So if you've got a big rate-cutting cycle coming from many central banks, the Fed leading it, if you've got big China stimulus, if you've now got a trending lower, you know, energy cost. That's another, you know, not insignificant, you know, economic boost. And we'll have to see whether oil does— how low it might go. I mean, Saudi are talking about raising their production by only 83,000 barrels per day each month. So by the end of 2025 they'll have increased production by 1 million barrels. So it's not a big— that, that's not a big increase over that amount of time. But I think it's just the— again, again, it's that change of strategy they're essentially announcing. I think the market will front-run this, and I, I'd be bearish on crude prices certainly into the end of the year.

Okay, well, a nice whether intentional or unintentional use of the rule of three to conclude the episode there, Piers. So thank you very much for listening, and yeah, we'll catch you next week. Thanks, Piers.

See you later.