Once again, overnight we saw the US up the ante on China…
Yesterday it was the closure of a consulate. Today it is a fierce tongue-lashing.
Mike Pompeo, the US Secretary of State, has called on the US and its allies to change China. More specifically, to change its ruling structure rooted in the Chinese Communist Party.
Dishing out some fiery quips such as this:
‘We cannot treat this incarnation of China as a normal country, just like any other.’
That’s a bold statement for most politicians to make. But, Pompeo, like the man who elected him — Trump — isn’t afraid of being bold.
As I noted yesterday, Trump’s anti-China platform was a big reason for his 2016 win. So, it makes sense that he would rely on it again for the upcoming election in November.
However, love it or hate it, this anti-China rhetoric isn’t just a Trump phenomenon.
The world order really is shifting. Both the US and China are setting the stage for a huge showdown. One that will force much of the world to pick a side.
And for Australia, it is a decision that we can’t afford to take lightly.
This is a topic that my colleague Greg Canavan has been following very closely. Looking for signs of what may come, and what it will mean for our economy and for investors.
I don’t want to steal his thunder, but long story short, he sees a ‘divorce’ coming. One that will divide Australia and China irreparably.
As for my view, well it’s fairly similar to Greg’s. It is pretty damn clear that our relationship is, and will continue, to change.
However, what I want to stress to you today is that this change doesn’t have to be bad…
Sectors to be wary of
First let’s get the bad news out of the way. Because as much as I wish it weren’t true, there will be some big losers from our China break-up.
The obvious and biggest loser will likely be iron ore.
Now, that may seem like a bold claim to make given its performance recently.
Thanks to ongoing issues at Brazilian mines, iron ore has been sitting around US$110 per tonne. Propping up several of our biggest miners and our exports. An outcome that has been made possible thanks to the strong demand from China.
But, recently we’ve seen the Middle Kingdom get a tad prickly over iron ore. Even dishing out some not-so-subtle threats regarding the sector. Threats that could upend this key market for us.
So, by no means is iron ore untouchable.
Even the government knows that.
Yesterday’s Treasury forecast has predicted iron ore prices will fall back down to US$55 per tonne by the end of the year. Owing to the fact that Brazilian mines are likely to recover in the coming months.
If Brazil can make up for Australian supply, then who’s to say China won’t cut us off?
For that reason, I’d be wary of the exuberance surrounding the sector right now. Not because I expect it to collapse overnight, but simply because there are risks at stake.
Keep in mind this is just one example, too.
There are plenty of other sectors that have hitched a ride on the China bandwagon. Sectors that could be at serious risk as our relationship with the Middle Kingdom evolves.
Baby formula, dairy products, livestock, and other agricultural commodities are just some examples that come to mind. Sectors that investors need to be wary of as our relationship with China changes.
Nor will these changes be limited to just good either. Major service industries such as education and tourism also need to be cautious too. Because we may start to see far less visitors from the Middle Kingdom as well.
But, we must remember it’s not all doom and gloom either.
Sectors to keep an eye on
At the end of the day, a decoupling from China will also reap some reward.
It will force Australian businesses to diversify, both externally and internally.
For that reason, from a macro perspective I’d be looking keenly at anything Southeast Asia-related. Because whether it’s outsourcing, exporting, importing, or a myriad of other avenues — SEA is set to play a big role in our economic future.
Take iCar Asia Ltd [ASX:ICQ], for example. A stock that is listed on the ASX but based in SEA. Operating in Malaysia, Indonesia, and Thailand.
This is the kind of investment you want to keep an eye on.
Looking internally as well, a decoupling will also pave the way for local businesses to step up.
Manufacturing could be a big winner in all of this. That is, if they can leverage new strategies or technology to become more competitive.
It is unlikely that we will rid ourselves completely of outsourcing. Companies will simply move from one source of cheap labour to another.
In fact, we’re already seeing this unfold. Several major brands have moved their operations from China to Vietnam recently. Including the likes of Adidas and Samsung.
So, don’t expect Australia to start making phones or shoes anytime soon.
Rather, any manufacturing boom we will get is likely to be far more specialised. Relying on highly skilled proficiencies or innovative technology.
Additive manufacturing pioneer Titomic Ltd [ASX:TTT] could be a big winner, for example. A company that uses massive 3D-printing-like devices to produce components for clients. Components that are made with fused metals and composite materials to make them stronger and more durable.
It’s the kind of high-tech manufacturing that could turn Australia into a productive powerhouse.
Again though, these are just a few examples.
Because no matter what happens with China, the impact will be very widespread. Plenty of sectors will suffer and plenty will succeed. It is simply a matter of trying to figure out which direction each will head.
I’m not saying it will be easy, but it is probably going to happen. At least to a certain extent.
Which is why as an investor you need to be ready for it.
As scary as the idea of a break-up with China may seem, in the long run it could be one massive opportunity.
You can’t afford to ignore it, and you can’t afford to let it pass you by.
Editor, Money Morning
Ryan is also the Editor of Australian Small-Cap Investigator, a stock tipping newsletter that hunts down promising small-cap stocks. For information on how to subscribe and see what Ryan’s telling subscribers right now, click here.
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