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Chinese Credit Expansion a Bad Sign

As expected, new loans to consumers and businesses expanded at a much faster rate in January 2010 than in previous months (CNY1,390B vs. CNY380B in December 2009). With large consuming economies such as the US and Europe showing sluggish growth, and the near exponential rise in Chinese capacity over the past few years, credit expansion may be the last thing the Chinese economy needs - it will simply fuel further overcapacity. Chinese growth at this rate is therefore not sustainable over the long term and GDP growth is likely to decelerate in the coming months.

Since China is the "factory of the world", any slowdowns in the Chinese economy are likely to result in a significant decrease in the demand for raw materials. Industrial commodities, and their associated currencies (AUD, CAD), are therefore likely to take a hit. In the long term, this is likely to be more of a "correction" in commodities rather than a bear market.

We are therefore looking to exit our long commodities positions later in 2010 and to begin entering short commodity positions in late 2010 or early 2011. Depending on the outlook at that time, these positions will be held for 6-12 months, followed once again by long commodity positions thereafter. The determining factor will mainly be our assessment of the extend of China's slowdown.

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