China’s zero-Covid policy is stretching global supply chains and inhibiting the energy transition, hedge fund manager Sir Michael Hintze has warned.
The worldwide shift from fossil fuels to zero carbon “will be hindered by supply chain bottlenecks,” Hintze, the founder of London-based CQS, said in an interview with the Financial Times. “I’m talking about things like being able to have enough copper, lithium and rare earths.”
Government policies and increasing investor demand for environmental, social and governance principles are together driving a reduction of investment in so-called ‘old economy’ industries, and a deployment of capital in alternative energy sources.
CQS is a credit specialist operating a range of funds that trade instruments including structured credit, convertible bonds, asset-backed securities and equities, based on geopolitical, economic and markets analysis.
It has been repositioning its business towards sustainable investment and now 60 per cent of its $21.6bn in assets under management is classified as Article 8 under the EU’s Sustainable Finance Disclosure Regulation. This means that they promote environmental or social characteristics.
In his latest letter to investors, Hintze pointed to under-investment in copper mine production — the key element in the shift to electrification — and political uncertainty in Chile and Peru, the two largest producers.
Meanwhile, lithium supply is tight due to strong demand. And rare earths — which are used in powerful magnets for wind turbines and electric vehicles — are not rare, but the processing capacity for them is, given complex chemistry. The production of rare earth “is dominated by China so it is heavily affected by geopolitics”, Hintze’s letter said.
“There are a whole lot of transition opportunities, which are being starved of capital expenditure,” said Hintze. “That’s the challenge and it pushes inflation.”
CQS’s flagship Directional Opportunities Fund lost 34.8 per cent in 2020 — one of the biggest hedge fund casualties of the coronavirus pandemic — after its structured credit bets turned sour. Last year, its performance rebounded and the fund gained 21.4 per cent, according to CQS’s latest investor letter. Its asset-based securities fund gained 13.1 per cent in 2021 and a credit multi-asset fund was up 6.3 per cent, the letter said.
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Beijing is preparing to host the Winter Olympics next month, and has rushed to impose restrictions to prevent any large-scale transmission of coronavirus in a bid to maintain its zero-Covid target. Manufacturing managers and analysts have warned that this threatens the production of goods ranging from smartphones to furniture.
“In the UK we are nearing herd immunity because of the Omicron variant and high vaccination rates, so we can increasingly live with the virus,” said 68-year-old Hintze, who founded CQS in 1999 after spinning out a division of Credit Suisse First Boston. “In China, where they haven’t done that, they have had to shut down most of their economy to fight the pandemic. And this has a huge impact on the global supply chain.”
In this environment, individual countries must consider their own supply chain sovereignty and domestic production facilities, Hintze added. “We have to do things like onshore the supply of semiconductors into the US, onshore the supply of semiconductors into Europe, and we have to think about the onshoring of various other chemicals and raw materials.”
China’s rise to become “the work engine of the world and the supplier of choice” initially damped global inflationary pressure, said Hintze, who was born in the country to Russian émigrés. “That’s been good . . . but the reality of it is that it’s not great now. Because what does it do to supply chains if China decides to shut down its ports?”
Hintze grew up in Sydney after his family left China when Mao Zedong and the Chinese Communist party took over power.
“When it comes to supply chains we need to think about geopolitics,” he said. “It’s about sovereignty, it’s about resilience, regrettably it’s inflationary too because it’s less efficient and it causes inequality if you’re not careful. So it’s a really big deal.”
In the investor letter, Hintze warned that geopolitical events were more likely to be felt in markets this year. He predicted that China would move its economy to be less dependent on the US, eradicate dissent in Hong Kong and put pressure on Taiwan, “adding to the risk of miscalculation between the [People’s Liberation Army] and US forces”.
Additional reporting by Laurence Fletcher in London