The Trump administration is moving ahead with a plan to block the government retirement savings fund from investing in Chinese equities.
The president’s decision was conveyed to Labor Secretary Eugene Scalia in a letter from Larry Kudlow and National Security Adviser Robert O’Brien. Scalia then ordered Michael Kennedy, the chairman of the Federal Retirement Thrift Investment Board, to “halt all steps” in connection with a planned shift that would have found government employees investing in Chinese stocks through a fund composition shakeup.
The decision to lift government employees’ exposure to Chinese equities was made two years ago. The plan involved reshuffling a $50 billion fund to mirror the MSCI All-Country World ex-USA index. China is the third-largest country weight in the benchmark.
The debate about whether to stick to that plan has been raging for months, with Marco Rubio spearheading an effort to force TSP’s Board to cancel the shift due to concerns about funneling money to China.
The letter from Kudlow and O’Brien is harshly worded and it specifically mentions COVID-19.
After running through the usual list of concerns around risks to investors including accounting irregularities and the vagaries of the Chinese economy, and after outlining familiar worries around whether investments in some Chinese equities ultimately benefit the PLA and undermine US national security, the administration says the following:
Recent events, which the Board could not have anticipated when it affirmed its decision in November 2019 to move forward with adding Chinese-listed equities to the I Fund, have heightened these risks. The Chinese Government concealed critical information from the United States and the rest of the world regarding COVID-19 and exacerbated the ensuing pandemic.
That is an inflammatory charge, and it is now enshrined in an official communication mandating what is, at heart, a restriction on the flow of capital to China.
Kudlow and O’Brien go further:
After first reporting its cases of the novel coronavirus in late December 2019, the Chinese Government concealed and delayed releasing critical information about the virus’s origins and characteristics. These events dramatically increase the risk that Chinese companies could be subject to sanctions or boycotts that jeopardize their business and profitability.
Needless to say, any such sanctions would likely emanate from the US first, so that could reasonably be construed as a threat.
You’re reminded that this was not some haphazard effort on TSP’s part to simply rush out and buy Chinese stocks. As noted above (and discussed in these pages at length last year), the fund’s board was simply transitioning some of its international exposure to track an MSCI index. In the letter, Kudlow suggests using the MSCI Emerging Markets ex.-China as a benchmark instead.
The letter to Kennedy makes it clear that TSP will not be allowed to move ahead with tracking the MSCI ACWI ex USA index. To wit:
At the direction of President Trump, the Board is to immediately halt all steps associated with investing the I Fund according to the MSCI ACWI ex USA, and to reverse its decision to invest Plan assets on the basis of that international index. This is the only acceptable course.
This was expected – sort of. The move has been in the offing at least since last autumn, but no one was sure whether Trump would pull the trigger. The trade talks forestalled the decision.
But, with tensions rising and Trump clearly at the boiling point, this was all but guaranteed coming into May. The next question is whether the White House will take further steps down this road.
As a reminder, the move to overturn TSP’s plans by executive decree was actually seen as the least controversial option last year when the administration was considering a variety of measures to cut off the flow of capital to China. Trump also reportedly considered forcibly delisting Chinese companies from US stock exchanges and commandeering the stock index construction process at benchmark providers.
Those plans were widely decried as potentially dangerous and panned as a “disastrous non-starter” by some market participants.
Letter from Kudlow and O’Brien to Eugene Scalia
Eugene Scalia letter to Michael Kennedy