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Is China Digging Itself A Bigger Debt Hole?

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Is China Digging Itself A Bigger Debt Hole?

There is a growing consensus that China has a massive debt problem that is only going to get worse without a serious overhaul. 

China repeatedly tries to prop up her economy with the creation of new credit, which may or may not prove sustainable in the long run. 

Goldman Sachs, in particular, has raised questions about the validity of China’s reported numbers, and now their analyst, Andrew Tilton, has charted out some of the problems.

China Reached a New Credit High in the First Quarter of 2016

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As the chart shows, China created a new credit of nearly 3.5 trillion yuan at one point in the first quarter, and Goldman Sachs says the total for the quarter was something like $1 trillion dollars. 

Needless to say, that’s a humongous amount, and without serious economic growth to sustain it, China may come to regret its debt practices

It cannot be ignored that China is hugely over-relying on debt, and treating it like the solution to all of its problems.

The United States has already learned the hard way that this will not work forever.

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Shadow Lending May Mean These Numbers Are Skewed

  • These numbers may be an underestimate as China has a phenomenon known as shadow lending, which is not subject to normal regulations.
  • Shadow lending remains off the financial books, while still adding to the overall amount of debt in the country.
  • Goldman is particularly disturbed by the lack of accountability involved in this process.

China’s Debt-to-GDP Ratio is Growing

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The chart above shows China’s debt-to-GDP ratio and how far it has gone up in recent years. 

According to CNBC, this is reflective of the fact that credit is now going to pay for existing debts instead of feeding into the growth of the economy.  It’s a vicious cycle that can only work for so long before it finally tanks.

The economy is slowing down even as debt rises, and Goldman points out that the amount of debt China carries is far larger than anyone thinks it is, due in part to shadow lending and due in part to the fact that China’s self-reporting is skewed, to say the least.

Needless to say, Goldman believes that Chinese banks don’t play fair with the regulations and that this only furthers the difficulties the country is facing with debt.

Zombie Businesses Live Off Credit and Drive Down Prices for the World

China is currently home to some of the so-called zombie businesses—steel and aluminum producers that are kept alive by the government. 

These businesses overproduce, saturating the market and making it impossible for themselves to make a living except through credit and government lending. 

The Washington Post reports that banks owned by the state simply roll these company’s loans over and let the manufacturers get on with their business.

While there are good human reasons for trying to keep these businesses alive—for one thing, the loss of jobs alone would be stunning—they ultimately help neither China’s economy nor the world’s. 

An overhaul of China’s social-services system may be necessary to help those who would be put out of work.

The Washington Post Suggests Possible Remedies for Zombie Businesses

  • Retraining programs to prepare workers for service jobs
  • Strong pensions to incentivize retirement in those close to the right age
  • Relocation programs to move workers to available jobs
  • Putting money into education and health to create jobs

Unfortunately, the Greater Debt Problem as a Whole May Not Be So Easily Solved.

With the entire economy essentially kept afloat by debt, China is sitting on one heck of a bubble.

 

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Automobiles

Hertz Pulls $500 Million Offering After SEC Review

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Hertz Pulls $500 Million Offering After SEC Review

Fortunately, Hertz won’t be able to sell worthless shares in exchange for real money.

The financially – and apparently morally – bankrupt company ended its bid to sell up to $500 million in new shares that it acknowledged likely didn’t amount to much.

In a regulatory filing yesterday, the company said that the stock offering “promptly” became “suspended pending further understanding of the nature and timing of the Staff’s review.”

In the filing, Hertz said that it had been in “regular contact” with the Securities and Exchange Commission all week. This came after the agency told the company on Monday that it planned to review the stock sale.

SEC Chairman Jay Clayton said Wednesday that his agency had concerns about Hertz’s plan to sell stock while the company is in the middle of bankruptcy proceedings.

“In this particular situation we have let the company know that we have comments on their disclosure. In most cases when you let a company know that the SEC has comments on their disclosure they do not go forward until those comments are resolved,” Clayton said during an appearance on CNBC.

The Process

When companies want to sell a security, in this case more shares, they submit a filing with the SEC. The agency will review the filing. It will also send comments back to the company consistently. In its feedback, it will ask the company to improve the disclosure or any irregularities in the filing. During his CNBC appearance, Clayton did not specifically mention the issues the SEC had with the Hertz filing.

“We at the SEC, were are trying to carry out our responsibility in situations like this as best we can and I expect the other professionals around the situation to carry out their responsibilities as best they can,” Clayton added.

Those disclosures filed by Hertz said “Although we cannot predict how our common stock will be treated under a plan, we expect that common stock holders would not receive a recovery through any plan unless the holders of more senior claims and interests, such as secured and unsecured indebtedness (which is currently trading at a significant discount), are paid in full, which would require a significant and rapid and currently unanticipated improvement in business conditions to pre-COVID-19 or close to pre-COVID-19 levels.”

In plain talk, that means the new shares are worthless.

DIP Financing

Hertz shares stopped trading for several hours yesterday before resuming again just before 3:30pm ET. Shares were up double-digits before closing the day with a modest 2.6% gain.

The company, which filed for bankruptcy on May 22, would traditionally get debtor-in-possession (DIP) financing. This would allow it to remain in business as the company went through bankruptcy proceedings.

However, after Hertz filed for bankruptcy, shares traded as low as $0.40 on May 26 before surging to as high as $6.25 on June 8.

Instead of taking the DIP loan that would need to be paid back, the company instead wanted to sell shares. I then planned to use the cash proceeds to pay off creditors. Hertz had hoped to sell up to $1 billion in shares, before trimming the proposed offering down to $500 million.

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Bankruptcy

Kenmore Deal a Short Term Solution for Sears… Simply Delaying the Inevitable

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Sears is one of the most iconic retailers in U.S. history. The company started the mail order catalog in 1888, and grew its brand of department stores from there as it became one of the driving forces behind malls. But lately, times have been tough for Sears. The once proud retail giant has shuttered Sears and KMart stores left and right as it tries to avoid bankruptcy. Now the company is doing something it’s never done before, turning to online distribution to turn things around. But is it too little too late?

Can the Deal Sears Struck with Amazon Right the Ship?

While Sears has been struggling to adapt to modern day retail trends, the company has been bailed out on several occasions by cash injections from CEO Eddie Lampert, who has given personal loans as well as investments from a hedge fund he manages. However, a cash injection isn’t enough if nothing is changing. So Sears is working to change. The next step? Selling its proprietary Kenmore brand through Amazon.

While the deal makes a ton of sense for Amazon, it’s a desperation play by Sears. Amazon gets to offer a leading brand on a pretty exclusive basis. Other than Sears itself, consumers won’t have any other options to purchase a Kenmore appliance. As the world’s leading online retailer, getting a leading brand no one else has just adds fuel to the fire. Smart play by Amazon. But for Sears?

Sears might see a small bump in sales from this deal, but the truth is, those sales won’t be enough to offset the trend of declining sales Sears has been experiencing for years now. Unless Sears has a bigger picture plan for expanding distribution of its products and brands, this changes nothing for the struggling retailer. That’s best case scenario. Worst case scenario? People who were willing to go to Sears specifically for its Kenmore brands now have one less reason to visit the store, or even the online store.

Clearly Sears is struggling. But they do have some valuable name brands. The best of those was Black & Decker, which sold this year for $900 million, down from the original $2.2 billion that was being considered. With Kenmore being another leading brand name, why isn’t Sears trying to sell the Kenmore brand? Most likely, no one wants it. Which is just another in a growing list of bad signs for Sears.

Watch this video from iBankCoin.com about the Amazon Sears Agreement to sell appliances online:

Ignore the hype around the deal. Expect shares of Sears Holding Corp. (SHLD) to continue DOWN.

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This publication provides general information about certain subjects, and should not be construed or taken as advice (legal, financial, investment, tax, or otherwise). Do not construe or take any information in this publication as a solicitation, offer, opinion, or recommendation to buy or sell any securities, bonds, or other financial instruments or to provide any legal, financial, investment, tax, or other advice or service about the suitability or profitability of any financial instruments or investments.

The Capitalist disclaims any liability for the accuracy of or your reliance on any statements, views, opinions, or information in this publication.


 

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Bankruptcy

Puerto Rico’s Bankruptcy Pits Wall Street Vs. the U.S. Government

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Puerto Rico is out of money. And not just out of money, but in serious debt, owing $73 billion to many Wall Street companies after years of investment in the territory by Wall Street. What happens when a territory defaults? It’s not a country that can give away its assets — Puerto Rico is a U.S. territory and thus falls under U.S. law. And as the U.S. government is wont to do when big businesses are facing trouble, Congress is bailing out Puerto Rico with a special type of bankruptcy protection. Who is most affected by the news?

What’s Next for Puerto Rico?

How does a U.S. territory end up pitted against one of the world’s biggest financial institution? In the case of Puerto Rico, through bonds. For years, Puerto Rico offered high yield bonds which brought in hedge fund and mutual fund managers who viewed the territory as a safe bet due to tourism and being part of the U.S. economy.

Puerto Rican Flag | Puerto Rico's Bankruptcy Pits Wall Street Vs. the U.S. Government

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So what happened? Well, investors assumed that the island’s financial difficulties and economic issues would be solved at some point. Unfortunately, that’s not the case. Now, those bonds have come due, to the amount of $73 billion, and Puerto Rico just doesn’t have the money to pay up. To make it relative, the city of Detroit, which is in serious financial trouble, owes about $18 billion. Out of that $73 billion debt, about $12 billion is insured, meaning that debt falls on bond insurers who backed Puerto Rico bonds. Puerto Rico then has to pay the insurance companies back, adding them to the list of debtors waiting to be paid.

Wall Street Bull | Puerto Rico's Bankruptcy Pits Wall Street Vs. the U.S. Government

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Who are these other companies? Big Wall Street names including:

OppenheimerFunds
Franklin Templeton Investments
Aurelius Capital Management

Watch this video from Wochit News about Puerto Rico’s bankruptcy:

What’s next? Puerto Rico goes into Title III court-supervised negotiations with the hedge funds to try and settle. But the fact is, that’s not going to amount to much. The government will push for debt restructuring and spending cuts, but the island is poorer than ever, with a dwindling population. The island will settle with Wall Street companies, who will then collect from the U.S. government and write down the rest for huge tax breaks. Puerto Rico will have to tighten its belt, but will survive with the help of the U.S. government’s protection and bailout.

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The statements, views, and opinions of any article, contribution, editorial, or advertisement in this publication are not necessarily those of The Capitalist or its editorial staff, and are not considered an endorsement, sponsorship, or recommendation of any referenced product, service, issuer, or groups of issuers.

This publication provides general information about certain subjects, and should not be construed or taken as advice (legal, financial, investment, tax, or otherwise). Do not construe or take any information in this publication as a solicitation, offer, opinion, or recommendation to buy or sell any securities, bonds, or other financial instruments or to provide any legal, financial, investment, tax, or other advice or service about the suitability or profitability of any financial instruments or investments.

The Capitalist disclaims any liability for the accuracy of or your reliance on any statements, views, opinions, or information in this publication.


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