Welcome to No More Risk Better, a Credit Sites Podcast. Across the global strategy team, we aim to make sense of the macro and the micro, highlighting opportunities and the risks facing the fixed income markets. As the macro makes headlines, we leverage our network of experts across fictions to better understand economic trends, rates, gyrations, geopolitical events, and how these factors impact corporates. At Credit Sites, we understand that credit investing comes down to picking winners to generate alpha and avoiding losers.
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I'm your host, Zach Riffes, head of investment grade and macro strategy at Credit Sites, and I am honored to be joined today by Zirlina Zhang, our head of Asia Strategy. Zirlina, thanks so much for coming back on the podcast. Thanks for having me. Looking forward to another great discussion.
Zirlina, let's start with the news to your, did Trump's inauguration speech or actions on day one of his presidency reveal anything crucial to you in terms of foreign policy and really shaping how you're thinking about markets going forward? I think the overall, the Asian markets were very relieved as Trump's inauguration date, this policy announcements on tariff were more benign than expected. If we look at the market, the Asian currency strengthened against the dollar Chinese equities were trading very far and the Asian credits continued tightening. I think in particular Trump's comments on China will very much last quackish than during the presidential campaign or even his more recent comments since the election.
He stopped short of mentioning anything specific on China were an immediate plan on universal tariffs by directed federal agencies to investigate trade as announced in his American first trade policy. Then later in the press conference, the 10% tariff on China was linked to fentanyl and also could be negotiated. And I think more importantly, compared to the post election period or the previous episode in Trump 1.0, now there is a visible path for US-China trade talks. Trump wants to hold China accountable for phase one trade deal signed in January 2022, such as the European-Pacific Party, fentanyl currency.
I think many of these areas can be negotiated given they were agreed on during the last Trump administration. And Trump also said quite warm-ton on TikTok deal, suggesting a 50-50 JD with the US only half. He mentioned that he might put tariff on China if Chinese side does not approve the deal. So basically, there's links tariff on China to the business deal as well.
And if we look at the China side, China also sends the vice president, Tianjin, as she's special envoy to attend Trump's inauguration, this is showing some goodwill towards the US-China relationship. Okay, so really, I'd say a better than expected outcome in terms of, call it the past 36 hours, relative to perhaps what the market had been pricing in, heading into the inauguration. Yeah, correct. So I think other than that, overall, we think the assessment has been a lot more denied than expected.
But if we look at the flip side, even though everything is not denied, but I think it's really too early for investors to get comfortable. And we still expect White House to increase tariff rates on China with an expectation of an average of about 10 to 20% of increase as a base case. Now the deadline for the trade investigation is April the 1st. So there is a risk that this could drag for up to three months for action on tariff to conclude.
And of course, it can be earlier as well as with a lot more headline risk. In addition, I think this headline risk, other than tariff, could be also elevated, such as an escalation of the trip sanctions to Chinese companies or inclusion of Chinese companies to the Department of Defense Chinese military list or the all-facts trading restrictions, this could be more relevant for dollar bound investors. On the other side, I think a rollback or revoke of the EV mandate and the advanced manufacturing production credits could also have huge implications for credits outside China, in Asia, in particular, the Korean EV battery credits. If this action happens, this could slow down the EV adoption in the US.
And even though I think the repealing of the entire IRA might be challenging, but still, the trading volatility is going to pick up regarding the Korean EV battery credits. And there's already plenty of industrial and sector headwinds for the sector. And I think if the White House does impose tariff, another thing to note is the US trading partners in particular China would likely retaliate. So in the last trade war, in response to the increased US tariff rates on the Earth's action 301, China raised tariff rates by an average of 10% point on around 100 billion of US exports between 2018 and 2022.
And these tariffs targeted US agricultural products through materials, and there was some also categories of vehicles and industrial machines. And post this going to effect US exports of these targeted exports, they did decline quite similarly. So if this happens again, these retaliatory tariff announcements could lead to decline in US equity market, which could have secondary implications for the US rates or the emerging equity and credit markets. And I think another thing to note is China is the country most likely to retaliate with other measures in addition to tariff.
So China could also impose controls on critical exports that are difficult for US to source from other countries on insufficient volume, including some of the electronics, batteries, metal alloys, semiconductors, and some medical products. That's hugely helpful. The guy fully appreciated some of the levers that China can pull in terms of negotiating. Obviously, I remember the tit for tat trade war that unfolded beginning in 2018.
So it's helpful to add that context in terms of raising tariffs up to 10 percentage points on a certain number of exports from China going into the US. I think that's another interesting point you make on controls of critical exports that are difficult for the US to source. And so in your opinion, when thinking about what Trump has discussed on the campaign trail, it seems like the market has taken the view that Trump is kind of holding many of the negotiating cards. And that seems like an oversimplification, at least with respect to China.
How do you think that that ultimately feeds into his decision-making process in terms of what levers he can pull and maybe what levers China can pull in response that might have the biggest impact on how Trump thinks about his negotiating on the foreign policy front? Yeah, I think we can take a quick look at the cards. China could pull. So first, as we mentioned, retaliatory tariff on US exports to China, which is very straightforward.
A lot of the trading partners would do. Second, it's more specific. You could be tariff on industrial plastics, which is quite a big percentage of US exports into the rest of the world. And there could be increase of non-tariff barriers to agriculture and other exports, another area of huge interest for Trump's administration if it's going to still appease to voters.
And there could be an investigation of US chip makers. So a lot of the US chip-making companies, such as Micron, they do have manufacturing plants in China and they still have ongoing production pipelines. That line like this would hit the US corporates, especially the semiconductor makers. And that would have the implication for Trump's administration and the policy.
There could be controls on critical experts to the US, especially the rare earth minerals. That is relevant for semiconductor as well as EV batteries. And there could be actions against US companies operating in China as well. Right now, I think a lot of the US operations where the developed markets, corporates are leaving China, but still there is a significant number of them within China.
So any restrictions or retaliatory regulations against these companies would also have implications for Trump. There could be a shift towards significant sales of US assets. As we all know, the PVOC and the Chinese government do hold a large number of US assets. And these days, the Chinese banks, the Treasury Department, as well as some of the Chinese financial institutions, they do have large cooling of US assets, like the US equity or the fixed income.
So if there is a window guidance or an extreme case, it's a straightforward sale order from the government, this could have a huge negative impact for the US assets. And lastly, I think there could be an increased opposition to the US on geopolitical issues. China could go a lot tougher with its outlines. There could be more frictions than with Russia and Ukraine front.
So this could further complicate US the foreign relationship with the other countries. I don't want to put you on the spot too much, but over the years in macro strategy type roles, I've gotten plenty of questions about the prospect of China selling treasuries, in particular US assets, I think, is a fine, broad categorization as you point out that Chinese financial institutions certainly hold more than just US treasuries. What's your sense of the likelihood of that happening? I guess, from my perspective, over the years, we kind of considered that as more of a mutually assured destruction type outcome in terms of the destabilization of global financial markets, the destabilizing effect it could have.
But in terms of just almost logistically, how much control does the Chinese federal government or the PBOC have over the financial institutions and banks and in terms of enacting some sort of broad policy like that? I think, first of all, they are already doing it over the past few years about diversification of their foreign asset holdings in terms of currency. There has been a lot of diversification into euros, into Japanese yen, or some of the other Asian currencies in terms of all C-singo-pridollar related foreign asset holdings. But the progress has been very slow.
It's just the hard fact that the US assets is still the most available and liquid, also higher return assets around all the global asset classes. And so from the China point of view, they also need to be aware of the valuation of their assets. If they do it in a very abrupt pace, then there's going to be a huge write down of their US holdings, and that's definitely not what the government wants. It would also have an implication in terms of how it stands, in terms of the effects asset management with the general public.
And if that happens, it does not stand well with the general Chinese population. So the Chinese overseas banks do have a lot of overseas assets, which they accumulate from taking offshore R&B or dollar deposits from the overseas Chinese population or Chinese corporates. And actually in the past, PBC has been using this overseas asset by Chinese banks as a tool of trying to stabilize them on R&B. So whenever there is R&B depreciation pressure, the PBC might win a guidance to this Chinese financial institution, asking them to intervene in the market to tighten the offshore U.N.
and offshore young liquidity, so to deter some of the speculation moves. But it also comes with a cost. If you keep buying R&B against the dollar when dollar is depreciating, then the Chinese banks need to take losses. And for China, the regulation system is complicated.
So the banks is not directly under the government. It's under the PBC. And for the government to do something that's out of the national interest, you need to coordinate among the different ministers, and sometimes things are not just straightforward. So I think a rapid sell of US assets by the Chinese government is still quite remote.
But we cannot rule out a such scenario if something, if some blacks won't, events really happen. OK, I think that's an encouraging response. And generally in line with the views that I've held over time, let's bring this back to just thinking about your outlook for China. It sounds like at least so far everything out of the first few hours of the Trump administration has been positive relative to perhaps the worst fears coming in.
Take us through your base case. And if there's anything we haven't covered in terms of potential policy out of the Trump administration, how that fits into your base case of you going forward. Yeah, I think one thing to note is the policy stance of top Chinese authorities have turned decisively more pro-gross things September last year, and there has been a lot of coordinated stimulus measures unveiled by different ministers. And it was paying attention to some of the new words, such as unconventional, statistical measures, moderate will lose monetary stance, which was the first shift from prudent stance since 2011, more proactive fiscal policies and aggressively boosting consumption, even revitalizing the stock market and comprehensively expanding domestic demand.
So overall, we forecast China's real GDP growth at 4.7% in 2025, which is a small slowdown from 5% last year, but is above the Bloomberg consensus of 4.5%. Basically, we think there has been a quite significant turn of the policy from the top policymakers, and we expect a lot of fiscal and monetary stimulus to be rolled out in the system. On the Chinese exports, we do expect Chinese exports to decelerate due to the increased trade protection. We think on 60% blanket US tariff, which is quite extreme case and probably with a slightly lower probability now, it's not about 2.5% of China's 2025 growth.
But we think there could be mitigating factors such as expert diversion to other yen markets and oddly R&P depreciation in response to increased tariffs and additional macro support measures. And to some extent, if it is a higher US tariff, it might be the scenario of bad news is good news, so we are going to see even more macro support measures coming from the Chinese government. And for the property sector, we do not expect an immediate turnaround because of the elevated home inventories and unresolved property debt. But I think the tail risk to growth or to the broader China credit market has been significantly reduced and because of the new local government debt swap program and also the support for the Chinese bank recapitization.
If the Chinese government wants to avoid adding some pressure to the R&P, giving the already large US-China rates differential, and I think the POC may delay the rate cut against the current US policy. I think this is reflected in the front-end rates Chinese rates south in recent weeks. Such adjustment is also acceptable as POC also intends to push back against the fast rally of the China government bond to avoid financial risk. So I think there is a chance that they might delay the policy rate cut and the triple R cut perhaps two seconds, quarter or even second half of the year.
Is that a big problem in terms of the growth outlook or is that more at the margin and it's going to come down to how the government responds to the ultimate inaction of policies on the US front and any domestic issues that are either lingering or crop up in the meantime? Not so much of it. You should if they slow down the monetary easing. The fact is, monetary policy has been very accommodative in China over the past two years.
There has been so many to borrow and policy rate cut. The problem is no longer about cutting rates but about addressing the slow monetary, the transmission of the monetary easing policies. So I think this year the government need to do more fiscal policy as a more heavy lifting of the Chinese economy and this is what they are doing already. At the start of the year, there is an expansion and an increase of subsidies for consumption goods, for trading, for home appliances, electronic goods.
There is additional equipment upgrades. So I think over 2025, there is going to be more policy on the fiscal front rather than on the monetary front. So it is still acceptable if the PBO decides to delay the rate cut and as well as the triple R cut. It might be good for the RMB as well.
And if RMB depreciation is ordered, I think also it's better for negotiating with the US. So I guess we could consider the outlook for China as having an embedded CCP put not unlike the Fed put that has grown in popularity in terms of expectations that if things get bad enough, the Fed will step in. It's kind of the same approach that you're taking in terms of the outlook for the Chinese economy in 2025. Yeah, I do think the government has a lot of tools.
It's really the willingness of using all these tools. And people are all talking about the Chinese government is heavily indicted. But it's about the distribution of this that the local governments are heavily indicted, but the central government, they hadn't really been using their balance sheet. And if they really want to turn around the property sector or turn around consumption, there is still a lot of room that could issue special central government bonds.
They could just like helicopter cash to the general population. It really depends on how bad they think the situation is and how much additional bullets they want to put out. That's important. And I don't think well understood perhaps by the broader market in terms of the ability of the Chinese government to step in, perhaps quite a bit more for a variety of reasons, but one certainly being from having relatively low borrowing done now.
That's certainly not the case in places like the US, UK or France. So maybe more of a floor on growth and perhaps even financial market performance in 2025 and kind of bringing that all together. Maybe take us through how you're thinking about China and Asia credit positioning or credit positioning recommendations of yours in your base case for this slightly better than expected real GDP growth forecast for this year. Yeah, sure.
So over the next few months, we do see some tactical opportunities in high beta greater China dollar bonds, such as the China Hong Kong property space. I know this one, a lot of investors are just going to be, I'm not involved in this anymore. But if you look at the SOE China property developers, there's still certain opportunities there. If you look at the Hong Kong property sector, it is facing a lot of headwinds, but the higher quality ones, they do have rock solid balance sheet and track record of generating positive operating cash flow.
In high-yield space, there is a Macau gaming, the sector is still recovering and a lot of the policy headwinds and operational headwinds are behind us. And in the China high-yield industrial space, the sector is still trading at above 10% the type of yield, so providing a lot of yield pickup against the Asia, extra-pan, triple B corporates or even some of the single B corporates. And some of the Chinese AMC credits in financial space are still providing some pickup and giving the overall progress total of the policy makers, we think the policy support towards these sectors are still going to be intact. That said, I do expect market sentiments might weaken if there is no concrete incremental stimulus getting rolled out by the two sessions meeting in March.
And hopefully that is not the case, especially given right now the Chinese credit evaluation is very stretched and there is a potential of increased new supply from China Tech and the SOE sector. And overall, if our clients look into adoration in China credits, we are still preferring staying up in quality and looking at the single A sector. And for those looking at China property, I still think there is a very poor risk for real money investors in engaging high-yield China property sector, of course, for hedge funds. If you trade in and out, there is a potential for you to get a 400% plus return and just in a week.
It's just if you look at the fiscal market, I don't expect the property support measures to be rolled out by the government so far to materially improve the recovery rate of the defaulted China property dollar bond, given their deep structural subordination. And for investors looking for a China policy upside, that type of proxy trade, we would still recommend state-linked developers or just looking at the X property China sector. And other than that, we still like owning the intermediate duration of China on the central government bond on FX adjusted base. I think it has been a very good hedge for US Treasury due to the low-coal relation between the two and also the good roll-yields from the FX forward pageant.
And this trade has generated over 15% of total return last year, beating US Treasury cash, Asia Dollar IG and US IG. So given our expectation for still-lose monetary stance and very limited inflation in China, I think this trade still gets some room for Asian credits. We still maintain our on-the-weight recommendation on both IG and Hyyote. Since we switch to on-the-weight from market weight in mid-November, both segments have widened.
And because of the increased geopolitical US policy uncertainties also, World Resource over China. For this year, we still forecast the Asia IG spread to widen to 100 to 110 basis points. And in Asia, IG credits, we recommend a portfolio duration of around five years, slightly lower than the index duration. And we like adding some quality issuers in the value, mainly the five to seven year part, given the spread pickup and also a lot of the new shoes coming from this part of the curve.
And for lower-rated issuers, we are still inclined to pursue a shorter duration strategy. And for those with high-year mandate, we recommend a lower-beta double-b names and then before Kerry. That's great. I think that covers really a wide swath of positioning considerations for a wide swath of investors.
So I appreciate that perspective. It's interesting. One of the points you make is certainly valuation seems stretched across a wide variety of asset classes. And that certainly rings true here in the US.
And we have a more defensive positioning bias, as you know. And so I think that kind of fits in well. And I like the idea of the intermediate duration, China's central government bonds, strong total return last year, a nice hedge against US Treasuries. And what's been a broad market sell-off across high quality fixed income, at least really from mid-September to January 14th was the trough that we saw on the global broad market index.
So it's important to certainly keep the overall yield environment in mind for total return investors. I think so far, access return is hung in pretty well. Again, across a wide swath, perhaps to to our surprise. But this has been great.
I appreciate you coming on the podcast. Learn a lot as always. It's always great to get your perspective as you have such a great feel for the market over there. And we on the strategy team here in the US benefit from it greatly.
So thank you so much for coming back on. And Zach, thank you all for tuning in. We will catch you next time on No More Risk Better. Good at sex disclaimer.
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