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TAL Misses, LVMH Driven By Chinese Consumers, MSCI’s August Rebalance Dates, US $ Faces the Dreaded Death Cross

Hope all is well!

Key News Overnight
Texas Instruments (TXN US) reported strong earnings though it had little effect on Taiwan (+0.05%)and South Korea (-0.38%) as I would have thought. Mainland China was a positive stand out in Asian equities last evening as China Merchants Bank reported strong earnings inline with a sell side report positive on financial companies heading into earnings season. Premier Li was quoted on TV as saying policy makers want low “real” interest rates while general sentiment around trade talks has been positively received by investors. HK was more subdued as local protests weigh on sentiment and particularly real estate stocks. There is no denying the effect the trade war has had on equity sentiment as evidenced by the recent rebound on positive developments.

The Hang Seng gained +0.25%/+70 index points on flat volumes day over day and still well off the 1 year average. Breadth was mixed with 26 advancers and 21 decliners as Tencent kept the index from declining on another strong day +1.86%/+55.8 index points, AIA was off -1.44%/-44.4 index points and CSPC Pharma gaining +6.15%/+12.3 index points on a sell side upgrade which dragged Sino Biopharma +3.68%/+7.4 index points. Casino operator Sands China was off -1.85%/-5.4 index points following mixed earnings. The HK stocks within the MSCI China All Shares gained +0.94% as AIA as a HK domiciled company is not a Chinese stock. Healthcare was the top sector +2.82%, tech continues to ride positive trade war sentiment +1.99%, Tencent pulled communications +1.34% while staples +1.21%. Al sectors were in the green though autos were mixed leading to discretionary +0.01%. Globally autos are looking weak. Southbound Connect volumes were light though buyers outpaced sellers as Tencent saw outsized buying from mainland investors on 5 to 1 buying versus selling. One sell side noted the renewed interest in Tencent from mainland investors as inflows have really picked up. Remember mainland investors pulled out of the stock prior to the gaming restrictions last year. Ping An saw similar buying as well.

Shanghai & Shenzhen opened lower but grinded higher to close on the day’s high +0.48% and +0.63% though volumes were off -1.9% day over day and well off the 1 year average. Bread was mixed with 1,729 advancers and 1,678 decliners as the market was broadly higher across market caps. The mainland stocks within the MSCI China All Shares as tech gained +2.58%, staples +1.19%, financials +1.13% and healthcare +0.5%. Materials was the only sector down -0.19%. Northbound Connect volumes were light though foreign investors again were more active in Shenzhen Connect than Shanghai Connect. Foreign investors purchased $283mm of mainland stocks overnight.

Online education company TAL Education (TAL US) reported disappointing top line and bottom line Q1 earnings pre-market this morning. This was a very disappointing in a company that has historically fired on cylinders. I’m really disappointed as the company has been a star performer though it does highlight having a diversified basket approach. Shares are off $3 pre-market
Revenue increased 27.6% YoY to $702mm though estimate was $714mm
Non GAAP EPS $0.03 versus $0.14 in Q1 2018 versus estimate of $0.13
The culprit was cost of revenue increased 21.4% to $316mm from $261mm
Gross profit increased 33.3% to $385mm from $289mm
Q2 forecast $895mm to $916mm versus estimate $952mm
Enrollment increased 40.6% to 1.7mm students

LVMH (MC FP) reported earnings Wednesday that exceeded analyst expectations. While the growth of fashion and leather goods garnered media attention, it is interesting to note that the only geographic segment that grew was Asia Ex Japan year over year. The number of stores in the Asia Ex Japan category grew from 1,195 to 1,341 year over year. The company does not break out China though it noted “Demand remained very strong in the United States and in Asia, particularly China, which reaffirmed its status as the second-largest market for the Wines & Spirits business group” and “The Perfumes & Cosmetics business group saw significant revenue growth in Asia, particularly in China.” It becomes shocking the company doesn’t break out China considering the following excerpts from the earnings release: “Makeup enjoyed increased success in Asia, particularly in China.”, “…particularly in China.”, “Fresh continued its robust growth in China,…” “…with particularly strong momentum in China…”, “…Zenith and Fred will increase their presence in China with a new store in Beijing and Shanghai.” It appears that rumors of the Chinese consumers’ death have been greatly exaggerated.

MSCI announced yesterday after the close that the pro forma for the August 28th rebalance, which requires MSCI benchmarked investors to trade at the close on August 27th, will be released on August 7th. The August rebalance is the second of three MSCI China A inclusions in 2019. MSCI will add another 5% of market cap, following 5% in 2018, 5% in May and 5% in November, which will raise their definition of Chinese A Shares to over 3% of MSCI EM in 2019. Remember that MSCI’s definition of inclusion is driven by their free float market cap definition. MSCI added to the number of Chinese A shares to the definition from November 2018 to May 2019 because the mainland market rose which expands the market cap definition. If mainland markets rally between now and August we could see the definition expand further. China represents 31.5% of EM today, the numerical count of Chinese companies and Chinese A Shares alone are 491 (41%) and 260 (21%) of MSCI EM’s 1,194 holdings. Ultimately the mainland stocks alone would represent 17% of MSCI EM upon full inclusion which is larger than the weight of South Korea’s 12.37%, the second largest country in EM. Cannonball coming!!!!

A broker noted Carlyle is unloading half of its position in online book company China Literature (772 HK) representing a 2.7% stake at a 4% to 5% discount via private placement. The stock fell 11.57% overnight on the news.

Bloomberg reported its US $ index (BBDXY Index) is facing the “death cross” when the 50 day moving average crosses below the 200 day moving average. Our fixed income PM met is meeting with several US fixed income houses’ trading desks and their credit strategists while here in NYC due to his trading with their HK colleagues. Coming from the preverbal “PIMCO of China” with several hundred billion US $ AUM opens a lot of doors as we visited the top tier US firms. Having sat in on several of these meetings, partially to make sure he doesn’t get lost in NYC, has been enlightening. One significant US firm’s investment grade strategist believes that peak US $ has been reach based on the house view of a 50bps Fed cut at the July 31 meeting. For investors with non US $, this could be a long awaited for FX tailwind. The BBDXY has gained ~31% since bottoming on 7/26/2011 despite negative rate interest rate Euro and Japan make up ~31% and ~18.7% of the index.

CNY 6.87 versus 6.87

Yield on 1 Day Chinese Gov’t Bond 2.12% versus 2.02%
Yield on 10 Year Chinese Gov’t Bond 3.18% versus 3.17%
Yield on 10 Year China Development Bank Bond 3.67% versus 3.67%

Commodities were higher on the Shanghai & Dalian Exchanges with Dr. Copper +0.3%