Chinese policymakers are pulling out all the stops to revive economic growth in 2023. Minyue Liu, Investment Specialist for Greater China & Asia/Global Emerging Market (GEM) Equities, underlines the positive implications for equity markets in 2023.
How do you see China’s abandonment of zero-Covid policies affecting markets?
Chinese and Asian equities suffered in 2022 (see Exhibit 1 below). This underperformance can be explained by:
1. China’s draconian zero-Covid policies (ZCP), and;
2. The crackdown by policymakers on property developers and the tech sector. This combined with geopolitical tensions to take a heavy toll. Underperformance of emerging market equities relative to their developed market peers in 2022 was largely due to China. By the same token, outperformance in early 2023 reflected the perceived improvement in China’s prospects.
In 2023, with the US Federal Reserve hopefully nearing the end of its tightening cycle, the pressure on markets from higher policy rates is lessening. In particular, the dollar has weakened, alleviating inflationary pressures and discomfort for emerging markets’ dollar debtors.
China’s reopening triggered a strong start to 2023. Initially, we feared a reversal of the reopening if infections got out of hand. Although reliable hard data on infection rates is hard to come by we are now convinced China has gone all in on reopening. There is no going back and that changes the outlook profoundly. It is particularly positive for service industries and the consumer. Revival of Chinese tourism will be a major plus this year. Hong Kong, Thailand and Singapore should be notable beneficiaries of renewed China outbound travel. The speed with which ZCP has been abandoned probably advances a resumption of previous travel patterns by 6-9 months to the fourth quarter 2023.
All of the factors that last year were headwinds for China have turned into tailwinds. Abandoning ZCP is very important but it should be seen as one part of a bigger policy change arising from the reassertion, at last December’s Central Economic Work Conference, of rapid economic growth as the Communist party’s “top priority”.
As a result, not only has ZCP been abandoned, but the crackdown on the technology sector and property developers is being reversed. Last but certainly not least, some efforts are being made to improve Sino-American relations (see President Biden’s meeting with President Xi in Bali in November and their agreement to resume high-level dialogue in sensitive areas), though the recent balloon imbroglio could (temporarily) slow down the progress.
Reviving growth the priority
At 3%, annual GDP growth last year was slow, though fixed asset investment was still robust. We see consumption and infrastructure investment as the drivers of growth from here. Reviving growth and employment are key policy targets for Beijing in 2023, with policy shifting in favour of privately-owned enterprises (POEs) and a platform economy. The manufacturing sector has regained favour under China’s ”dual circulation’ policy and Beijing’s new reform strategy. These favour technology innovation, energy transition, high-value manufacturing and hard tech production (while focusing on import substitution and technological self-sufficiency) over traditional manufacturing.
We expect to see more accommodative monetary policy and fiscal support to give rise to opportunities for us to pick up fundamentally solid long-term winners in the stock market at more reasonable valuations.
We anticipate the recovery in macroeconomic performance is likely to take another one to two months as China’s population reaches herd immunity from Covid and full occupational and social mobility is achieved. On this basis we see corporate earnings recovering more in the second half of 2023.
Our expectation is for choppy movements in valuations characterised by a number of ‘W-shaped’ market moves with a gradual uptrend, rather than a sustainably strong ‘V-shaped’ rebound.
The real estate sector has been a source of concern, what’s the situation today?
The real estate sector presents a challenge for China, as it has retrenched sharply since 2021. The central government is now mobilising policy banks, state-owned enterprises and local government resources to revive suspended projects and ease developers’ funding shortages. Crucially, Beijing’s policy response to this problem since November 2022 has been strong and ahead of the curve, sending positive signals to the market about supply. Restrictions on borrowing for property developers are being relaxed to support the sector by dialling back the “three red lines” policy (in August 2020, the policy was unveiled to tackle property developers’ unbridled borrowing by restricting the amount of new debt they could raise each year).
We expect centralised support will help rebuild market confidence via further policy measures aimed at bolstering demand.
What’s your longer-term outlook?
We are structurally constructive on Chinese and Asian equities in the medium to long term.
Through 2023, both the Chinese corporate sector and the Chinese economy will benefit from a low base effect. Valuations of Chinese equities have remained reasonable relative to historical levels and other markets, despite the recent rebound. While growth prospects have brightened, the rally we have seen so far has mainly been led by sentiment and multiples revision. Further index upside should predominately be driven by company earnings growth (fundamental recovery and positive earnings revisions). This may take another 1-2 quarters until the positive effect from higher underlying demand and better macro-economy data feeds through to earnings.
The sea change in the outlook for China has positive implications for Asian asset markets generally. The outlook is encouraging for commodity exporters as demand in China rises. In particular, global emerging markets with energy or material endowments will benefit.
The excess saving built up over the last two to three years is mainly driven by personal saving instead of significant fiscal transfers (as we have seen in some developed market countries). Therefore, Chinese consumers are, in our view, likely to be more cautious and may not embark on a spending spree in 2023.
The spillover inflationary impact from China to the region is likely to be modest given that we anticipate only moderate recovery in China’s demand . Pent-up demand is likely to impact services and domestic consumption more than tradeable goods. For this reason we do not anticipate a sharp rise in prices for goods. A strong recovery in supply and manufacturing output, in combination with a moderate recovery in general demand, means China’s inflationary pressures should remain manageable in coming years.
Our China equities team prefers to focus on domestically focused businesses and on those businesses that stand to benefit from policy choices. Given the revisions to official policy we are positive on the prospects for growth companies in the Chinese market. We believe China’s equity markets will be increasingly led more by structural than by cyclical factors. We identify long-term investment opportunities in the sectors that we see as well positioned to benefit from structural changes, namely:
1) Technology & green innovation;
2) Consumption upgrading;
3) Industry consolidation.
These themes are the guiding stars in our long-term portfolio strategy.