July twenty-fourth, two thousand twenty-five
《EM’s Re‑Entry Dilemma & China: Exports, Jobs, and Capacity Clearing》
The Emerging Markets’ Dilemma of Adding Exposure & China’s Exports, Employment, and Capacity Clearing
Part one, The strategy of going long EM assets continues to outperform
The first section is an update on trading in emerging markets: EEM is up nearly 20% year to date, and GBI-EM is up about 10% year to date; both have significantly outperformed dollar-denominated assets (SPX, EMBI, AGG)...
Chart: EM FUND PERFORMANCE
Beyond prices, another key focus is fund flows，The market has long expected inflows into emerging-market funds to give local assets a stronger boost, however, EPFR’s data show that, so far, inflows into global EM funds have remained fairly lackluster.
One reason for the discrepancy is that A lot of capital is being withdrawn from Western asset managers and repatriated to EM’s onshore market,
Take data on onshore Chinese funds as an example: rolling figures for the past 13 weeks show that nearly 200 billion dollars of capital has completed the return flow:
Chart: An unusual reversal in the flow trend of local-currency funds
This will lead to slower-moving institutional mandates facing a rather difficult dilemma in adding exposure, on the one hand, market prices have already priced in to a large extent the possibility that they may buy, so entering now means missing out on cheap positions; on the other hand, for now, EM assets are indeed relatively among the better allocation choices in this beauty contest.
The dilemma of adding exposure means EM assets may go through a period of consolidation at the index level, although further gains remain the expected path.
Second, the discussion of exports and employment in Notes250722 “13 Takes on China’s Market”
Two details should be added:
1) If deflationary pressure bottoms out but nominal wage growth fails to improve, this will further constrain real wage growth, and real wage growth is a direct long-term indicator for going long domestic-demand sectors, If real wage growth fails to pick up, domestic demand can only be traded as a narrative, not held as a core position(until the downward trend in wage growth reverses)。
According to the latest wage-tracking data, wage growth has continued to trend downward since the first quarter of 23; as of the second quarter of 25, this indicator puts year-over-year wage growth at 3.9%, its lowest level outside the pandemic period:
Chart: Nominal wage growth in the second quarter of this year reached its lowest level outside exceptional periods
2）At present, the improvement in export growth competitiveness is mainly due to renminbi depreciation, not lower export prices.Trade routed through other countries to the United States may be reducing downward pressure on prices; if these channels are cut off (or subject to tighter restrictions),exporters will have to cut prices further, weighing on profitability...
According to UBS's special survey of Chinese corporate executives conducted last week (which covered executives at exporters and suppliers in 200 manufacturing companies where export business accounts for more than 30% of sales), 81% of companies exporting to the US said their current US orders were down from last year, and 87% expected them to decline further if the current tariffs remained in place.
Since 4 month 2 day, most companies have negotiated with U.S. customers, and 62% have reached an initial consensus. Respondents said they could pass on about 35%-40% of tariff costs to U.S. customers or share them through other channels, significantly less than during the 2018-2019 trade war, partly because the renminbi is relatively firm against the U.S. dollar.
About 50% of companies said they might lower export prices (relative to the level at the end of 2024) to preserve U.S. orders.
Of course, export resilience cannot be explained solely by trade routed through third countries, but both factors in fact lead to the same outcome:
Chart: Broader export growth
A surge in exports to a particular group of transshipment countries could have special causes, but after the United States sharply raised tariffs, China’s exports to other regions of all kinds also grew. This points to another factor: exporters are urgently seeking to develop more new export markets, which is exactly what is happening now...
For exporters, if they want to sell goods in markets they had not previously entered, or capture more market share in the short term,
trading price for volume is inevitable, and this will also put pressure on exporters’ profitability：
Chart: Markets reach equilibrium through prices, not through fixed allocation
A simple economic principle: if China does not export these goods to the United States through transshipment, it must export them to the rest of the world. If the supply of goods in the rest of the world increases while demand remains unchanged, prices must fall to generate additional demand.
For exports, we will selectively avoid exposure(in particular, this segment may also face pressure from the risk of renminbi appreciation).
Chart: More details
Third and finally, a recommended read on capacity clearing reposted from Henry Luo:
(1) Solar power remains at the bottom of the cycle and is closest to reaching a turning point when demand recovers; (2) electric vehicles have the weakest margins and steepest cost curves, while capital-expenditure trends are driving further industry fragmentation, making consolidation most necessary during the downturn; (3) compared with other industries, the relative cost advantages of leading manufacturers in air conditioners, lithium batteries, and construction machinery are almost unassailable.
In terms of flows, investors are mainly buying coal and steel, followed by solar modules and autos. More noteworthy is the partial unwinding in China’s market of the “barbell strategy” that has been popular since the start of the year (that is, buying large-cap, high-dividend stocks and small-cap stocks).
Although reflation trades remain a key focus, flows show a tendency for this strategy to unwind. Over the past week, institutions have tended to sell banks and insurers while increasing their rotational allocations to technology, brokerages, and solar.
...
The discussion of capacity clearing can be read alongside the series of reports on the capacity cycle that GS published in 24 8. They explain the operating stages of each industry fairly clearly; see “China's capacity - imbalances, inflections, and beyond cycles.” It is also posted on the Planet.
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2025.07.24
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