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China inflation numbers not as worrisome as some think

China Consumer Price Index Year Over Year 2013-03-10Enlarge GraphAnalysts keep an eye on China’s inflation numbers because they show what policymakers may (or will) do with the country’s monetary policies.1 When inflation rates are high, policymakers will tighten monetary policies to lower spending in the economy, which often slows down manufacturing activity. As China’s manufacturing activity is a key driver for dry bulk and oil trade, lower economic growth means lower revenues and earnings for shipping companies such as DryShips, Inc. (DRYS), Diana Shipping Inc. (DSX), Knightsbridge Tankers Ltd. (VLCCF) and Teekay Corp. (TK).2

Food price is the biggest component of China’s CPI

China’s February CPI (consumer price index) increased at a faster pace, rising to 3.2% year-over-year, compared to the prior month’s 2.0%. While all countries have a consumer price index that measures a basket of goods that households spend on, calculation varies across countries because each household in a given country allocates its household expenditures differently. For a country like China that is still developing, a significant portion of household income is spent on food. Thus, 31.8% of CPI is based on food price, followed by 17.2% for residential expenditures.

Analysts worry higher inflation may force policymakers to tighten monetary policies

While analysts worry that higher inflation may force policymakers to tighten monetary policies, which will hurt economic growth, China’s February inflation rate is skewed to the upside as the Lunar New Year took place in February this year, as opposed to January last year. The key driver of February’s CPI, food price, rose 6.0% year-over-year, even though food prices rose at a higher pace of 10.5% year-over-year during 2012’s New Year. Inflation should come down from March as the effects of Chinese New Years wears off. Additionally, some fertilizer firms have seen increased potash purchases from China earlier this year, which should increase crop production and help with the higher food prices.

The market could have priced the worry in already

This is positive for companies such as DRYS, DSX, VLCCF and TK mentioned earlier in the short, medium and long term as the market could have already priced in the worries. It also favors the Guggenheim Shipping ETF (SEA), an ETF that invests in high dividends paying shipping firms world-wide.

  1. Monetary policies are tools that central banks use to increase or decrease demand for loans through changes in the base interest rate or bank’s ability to lend out money.
  2. See “China’s manufacturing activity has significant impact on shipping.