Magazine Extracts – Investing in China

China is one of the fastest growing emerging markets in the world. After posting high single-digit growth over the past two decades, the country was expected to surpass the United States and become the world's largest economy over the next few years. However, COVID 19 caused a significant disruption to business and consumer activity in China as well as global supply chains resulting in headwinds for revenues and profits. China has been on an easing path in terms of monetary and fiscal policies. Although monetary policy was easier than pre-COVID levels, China’s response was muted relative to the developed world. In the following section of the magazine our China experts talk about the current state of Chinese equities, China’s regulatory environment, market recovery and economic strategy for the following part of the year.

May Ling Wee, China Equities Portfolio Manager at Janus Henderson

The coronavirus caused significant disruption to business and consumer activity in China as well as global supply chains resulting in headwinds for revenues and profits. Chinese equities sold off when it was evident the health authorities failed to contain the outbreak in Wuhan and subsequently as COVID19 spread to the rest of the world. From their March lows, Chinese equities have performed strongly as macroeconomic indicators in 2Q showed a better than expected pickup in activity post February’s shutdown. Sentiment has been bullish on the expected recovery in economic growth and corporate earnings in the 2nd half of the year. The offshore market (MSCI China Index) and onshore market (CSI300 Index) are up 15.6% and 15.6% year-to-date (to 6 August) in US dollar terms. 

China’s market recovery

The overall economy has recovered to pre-COVID levels in the 2Q but the extent of recovery varies among economic segments.

China’s post COVID recovery, reflected in production indicators post lockdown, appears to be steady as factories caught up on orders missed during the shutdown and construction activity restarts. However, consumption, especially in services, still remains below 2019 levels. This is largely due to social distancing and fear of infection but also a weaker macro environment and lower income expectations. The real estate sector has held up well in terms of home buyer sales and investment by developers. Infrastructure investment is now showing positive growth after 1Q’s decline and an uplift in infrastructure activity is expected in the rest of the year. Infrastructure and real estate investment have been instrumental in the recovery so far, the export sector too has done better than expected as China’s factories restarted production before the rest of the world.

Andrew Tong, Senior Portfolio Manager, Invesco

In Q2, China A share market was up by more than 10% with domestic economic recovery

driven by both effective control of the pandemic and policy support. The National People´s Congress, the highest organ of state power and the national legislature of the People's Republic of China, set in May the tone of loosening monetary policies targeting small and medium enterprises (SMEs) and fiscal stimulus focusing on new infrastructure projects and job creation. 

Chinese stocks have been helped by government support (on July 6, the state-owned China Securities Journal published a front-page piece advocating the importance of a “healthy bull market”). This indicates that Chinese authorities are keen to support continued flows into the stock market. There are myriad reasons why: Chinese companies need capital to increase their competitiveness in a variety of areas including finance and technology. In addition, given the pandemic and ongoing trade tensions between the US and China, self-reliance has become a higher priority to ensure the country may have more control over its destiny. 

Chinese stocks were also helped by improving confidence in China’s ability to control Covid-19. This not only increases confidence in China’s ability to control a second wave, but it suggests China could execute a relatively robust economic recovery. For example, the June Caixin services Purchasing Managers’ Index for China clocked in at 58.4, up from 55 in May¹. Now, it’s unlikely that the recovery for the Chinese manufacturing sector will be as strong as the services side of the economy given China’s reliance on foreign trade. In 3Q, we expect the domestic economy to recover back to close to normal level before the pandemic, but the pandemic spread overseas could continue to put pressure on China’s export sectors. However, China’s overall economic recovery could still be very solid, and we believe that sentiment is likely to continue to support Chinese equities.

Dale Nicholls, Portfolio Manager, Fidelity China Special Situations PLC

We believe there are strong investment opportunities in Chinese stock markets. China’s recovery is gathering pace after the extensive lockdown seen in the first quarter of 2020. On a policy front China has taken a gradual and measured approach and therefore retains scope for further policy support. While the pandemic is likely to moderate global growth in 2020, China is well positioned to recover given the normalisation of economic activity and strong responses to limit further outbreaks. There are no changes to the longer term trends around structural change which continue to unfold and therefore, even at a milder pace of overall activity, there remains opportunities for growth with the shifts in demand patterns occurring. The impact of the virus is likely to accelerate several of the structural shifts already underway, such as the shift to ecommerce and various online services.

A significant weighting in such holdings should see the Trust benefit from such trends. Over the 12 months to 31st May 2020, the Trust’s NAV registered 29.0% in returns, outperforming its reference index which delivered 16.5% over the same period. Meanwhile, the Trust’s share price rose 27.7% over the same period. Adding to performance was the Trust’s high-conviction holding in China Meidong Auto Holdings. Its focus on lower-tier cities, a strong portfolio of luxury brands, strong revenues from after sales services and an improvement in new car sales margins contributed to its healthy sales and profits. Leading carrier-neutral internet data centre services provider 21Vianet Group also added value, supported by the addition of self-built cabinets, robust demand for its cloud services and expectations for increased demand from fifth-generation (5G) applications. Noah Holdings held back returns amid weaker transaction volumes following the COVID-19 outbreak. 

Bin Shi, Bin Shi, Head of China Equities, UBS Asset Management

Not back to normal, but on its way

China's economy was hit severely and in the first quarter, GDP dropped. The government hasn't set a new GDP target, which we believe is a prudent response. Giving targets to local governments runs the risk of local officials rushing to enact policies to beat the target, which may not be good for the economy in the long run.

We don't really focus too much on GDP numbers, we are more focused on long-term fundamental trends like urbanization or China's aging population. These trends will remain intact, despite the disruption caused by the pandemic. 

UBS Equity China Opportunity Fund: sticking to its long-term strategy

Chinese equity markets saw a sharp correction during the peak of the pandemic, but have rebounded strongly. Year-to-date as of the end of July, the UBS Equity China Opportunity Fund has delivered a positive performance of 17.7% (net of fees, P-acc share class), clearly outperforming the broad Chinese offshore market. This has once again shown the value of a local and experienced investment team doing “boots-on-ground” research and focusing on quality.

Anthony Wong, Portfolio Manager China A Shares fund , Allianz Global Investors

China has been “first-in and first-out” of the Covid-19 outbreak. Nevertheless, as of the end of July, China is seeing its highest number of daily new Covid cases since March, with two specific clusters in the north. It seems very likely that such local outbreaks will continue to pop up but the success in bringing a previous outbreak in Beijing under control in June has led to a new containment strategy, designed to ring fence the risk areas without having entire cities grind to a halt. The country’s swift reaction demonstrated China’s preparedness and ability to manage the situation in a way that minimizes economic disruption. The result has been a visible recovery of economic activity while the risk that future pandemic waves have a significant financial market impact currently seems quite low. 

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