Apple China Mobile Deal
It looks like Santa is coming to town, well at least in the market. There are amazing stories in the emerging markets, but there are also some risks out there. I expect that if we only concentrate our focus on the growing emerging market story we may become blind to some core risks that could rattle this market, namely the dollar risk and Fed monetary policy.
Apple’s China Mobile Deal
Emerging Market Growth
One theme I continue to focus on is the growth in the emerging markets and the West’s (US, Japan, UK, and Europe’s) reliance on the emerging markets. The S&P 500 continues to see revenue growth from over-seas and now over 50% of all top-line revenue for companies in the S&P 500 come from overseas. The strongest overseas growth continues from the emerging markets. This trend is going to continue and we must understand what that means and accept how that trend will impact the West.
The growth comes from one thing, consumers. Those places with the largest potential consumer pool (and also a growing consumer pool) will eventually become the largest sources of top-line revenue. It also means that companies will continue to gravitate to where the consumers are and it will also mean the growth in jobs, services, manufacturing, and all things needed to support consumers will expand in those areas.
The West’s Stagnation
Of course this doesn’t mean that those nations, such as our own, will continue to contract, but it does mean that expansion will hit its maximum consumption vs. output level. When this happens growth becomes stagnant and can only grow if the consumer pool grows. Once you hit the maximum consumption vs. output level, the only way to accelerate growth rate is to leverage-up credit spending and create debt. I don’t know the exact point at which we hit the maximum consumption vs. output level, but it must have been sometime in the 1980′s or perhaps 1990′s. Then we saw a huge boom in credit expansion, which gave our nation a new boost in consumption. The credit crisis was just an amalgamation of the debt and the ability to finance debt. Credit expansion stopped and the West doesn’t have enough core consumption growth to get going again without more credit. The problem is the pool of consumers in the West that is finite and not growing.
Apple / China Mobile Deal example
Courtesy of creativeshift.com
The deal between Apple and China Mobile is a perfect example of this simple math. China Mobile has 750 million customers. Think about that for a second, 750 million customers is more than twice the entire population of the United States (every man, woman, and child). Apple knows that it can’t continue to grow selling to just the people in the United States as there are only 300 million people in the U.S., only a fraction of them have cell phones and they have to fight over that fraction of people with other cell phone makers.
This deal is not just massive for Apple, it is an amazing realization of how HUGE the global emerging market consumer is. It’s massive and that is only one nation. The BRICS (Brazil, Russia, India, China, and South Africa) together have a pool of consumers that dwarf the entire West (US, UK, Japan and Europe). Additionally, the BRICS are a GROWING population, while the WEST is contracting. The West’s population is ONLY growing based on immigration. I haven’t even mentioned Africa or South East Asia. Indonesia for instance has a population that is over 250,000 million and growing fast and will surpass the U.S. in 10-20 years.
What is happening in the emerging markets is that every day thousands of consumers are coming online. That means they are reaching a level of income in which for the first time people have access to disposable income, they can buy a cell phone, go to the movie, buy a car, but a flat screen TV. Every day in China a millionaire is created. Luxury brands are falling over themselves to sell Ferrari’s, Rolexes, and Cartier to the booming millionaire and billionaire population. There are several cities in China that are bigger than New York.
Global Market Risks?
Now, all this is exciting news for the multinational companies that are getting a foothold in these fertile consumer grounds but there are huge obstacles and issues they must overcome.
1. Competition – in many of these nations we are seeing new companies rise out of nowhere bringing direct competition to the big multinational companies that once dominated the global market. The pie is big and that means that more competition is coming online.
2. Credit Risk – most of these nations are just starting to see consumer credit come online. We don’t know how responsible and accountable consumers will be with this and how fast a credit bubble will be created. We have seen a couple of construction credit bubbles in China already, with a couple of ghost cities in which construction companies built cities on credit but couldn’t fill them. This in not impacting the consumer demand, but does show that bubbles can happen quickly.
3. Political Risk – China has been flexing their muscles over some islands that are under contention with Japan and Taiwan. China is also building some super-carriers and expanding their air force and naval operation. Russia’s relationship with the West is being played out over the economic and trade agreements with the Ukraine. To some extent these big nations are forcing others to pick sides – economically speaking.
4. Trade Risk – The US has been in a constant battle with China and other nations over trade agreements and tariffs. The rhetoric has toned down in the US as the politicians in Washington fought among themselves these last few years, but the trade battles are still a huge variable that can certainly hamper international business.
These are just the most obvious risks in the global markets for U.S. based international businesses. However it is important to understand that risks only bring volatility, it can’t change the demand part of the equation. No matter how much a government tries, they can’t stop the demand. If the people want something they will get it one way or another.
Biggest Unknown Risk
There is a huge risk factor that I did not mention. It is a big cause of concern for the emerging markets, so much so that China and others have openly voiced their concerns and criticisms. It is the US Dollar, its reserve currency status, its inflation risk, and US monetary policy.
China stopped expanding their US treasury purchases years ago, they are only rolling their issuances as they come due and China’s actual treasury holdings have remain stagnant. They are not buying new issuances with new money. China is not the only ones; most of the biggest US treasury buyers have halted their purchases as well. The halt in treasury purchases was so massive that our only option was for the Fed’s Quantitative Easing (QE) policy.
China has been the most vocal and watching carefully, the recent taper is good news and does return some confidence, but a $10 billion taper is nothing when compared to the $900 billion (almost a trillion) that the Fed will continue to print and purchase treasuries with. Perhaps at some levels it was an olive branch to answer China’s criticism of US monetary policy. Maybe the US hopes to appease them a little, in hopes that China will again start purchasing US treasuries. That will not happen until a more favorable interest rate attracts buyers and the government’s fiscal policies and balance sheet gets under control. Regardless the taper and the short-term budget deal have bought some time and optimism.
Global Growth Future
Coming full circle, the growth story in the emerging markets is great, awesome, and I believe the next huge way in the global market expansionism. I believe that there will be a quick and aggressive race into Africa for resources and manufacturing, much like China in the 1970′s – 1980′s.
The international companies that are able to play in this global sandbox will continue to see expansion; those that don’t get a foothold or become too reliant on the Western consumer will continue to struggle. There also remains a huge unknown factor with the dollar being a reserve currency. The dollar will eventually lose that war, just because it doesn’t have the economic might that relies on a large and growing consumer pool.
The Apple deal with China Mobile and the massive consumer base is an excellent example how big and powerful the emerging market economic engine is. The deal still has some risks and may not be as big of a top line revenue generator at first, because Apple may have to subsidize their iPhones initially, but it is a solid beachhead they have secured.
Support & Resistance
There is some good news out there with Apple and the global markets. The bad news is Target’s debacle with credit cards and now news that the banks with the issuing cards are limiting spending. Domestic sales at Walmart and Target have been lighter than expected. We will see how the 4th quarter will play-out; I think it will be a mixed bag.
Apple’s China Mobile deal is finally done and the sheer size is awesome. The question now is whether Apple can initially capitalize on the deal; it looks like they may be subsidizing iPhones, initially, which is a loss-leader to gain some market traction. I suspect that will eventually turn around.
The S&P 500’s strength is the growth in the international market, mainly the emerging markets. Remove the emerging markets from the equation and the earnings from the S&P 500 is lower by over 30%. That’s significant and I would argue that we would not see the S&P climb nearly as strongly, even with the QE if it were not for the emerging markets. The VIX is still falling, if the market remains strong we could see it break down below 13 and into the 12′s.
The RUT broke about 1145 (if we look at the futures). A solid move above 1150 could show a signs of another break-out higher into the New Year. Continue to watch the RUT for signs of the general order flow.
Don’t forget what’s driving this market.
If we look strictly at the domestic consumer, things are not really that great. There is growth, but overall it is stagnant. However, the global story remains strong and that is great news for international businesses, so long as they can get a foothold into those markets. We must continue to separate the domestic economy from the global, the market relies on a global market place, but we live in a domestic one.
The taper was only $10 billion, the Fed will continue with $75 billion a month, which is on pace for $900 billion per year. So, from a fundamental standpoint, nothing has really changed. Add in the zero interest rates until the 2016 target and we remain in an equity only alternative as treasuries remain unattractive.
The one underlying factor is the dollar. The dollar index, even with the taper, has remained above 80. However, I believe it is being held up very precariously at this point, even with the slight taper. The taper did bring about some positive optimism from the global central banks (mainly China), but it is just a baby step at this point.
The dollar remains the biggest unknown risk factor and the problem is that everything is priced on the dollar at this point. It is not emerging market growth, bad earnings, or even domestic economic stagnation that will bring forth huge volatility to the markets, it will be the dollar.