In the year of the tiger, China goes for growth

Fresh regulatory pressure from the government in Beijing and the spread of the Omicron variant have plunged the Chinese equity market into turmoil. Nonetheless, Union Investment expects China to remain a driver for global economic growth. But equity investments require careful selection.

Over the past week, the Chinese equity markets performed a rollercoaster ride that brings back memories of their former unpredictability. After a sharp crash, prices on Shanghai’s stock market bounced back with the biggest two-day gain since 1998. On Hong Kong’s stock exchange, where many China-based technology companies are listed, share prices also delivered a spectacular rally. The shares of e-commerce giant Alibaba and search engine operator Baidu jumped by around 20 per cent. Earlier, news of a record penalty against payment service provider WeChat Pay, which belongs to internet giant Tencent, had caused technology share prices to crash. It was reported that WeChat Pay had violated regulatory requirements of the Chinese central bank. The news sparked concern among international investors that the Chinese government might be planning even tougher interventions in the technology sector.

Markets affected by lockdowns, geopolitics and the US regulator

The Omicron variant of coronavirus is spreading rapidly in Hong Kong and causing high numbers of deaths, especially among those aged eighty or older. This has been causing concern, as mainland China could be in for a similar fate if new Omicron hotspots were to emerge there. These concerns are not entirely unfounded. Vaccination rates in China are relatively low and the Chinese vaccine has proved less effective against the Omicron variant. A recent rise in case numbers prompted several major cities to impose lockdowns, which fuelled fears that widespread factory closures could lead to a new bout of supply chain disruption.

An announcement by the US Securities and Exchange Commission (SEC) further dampened the mood. The supervisory body is considering a forced de-listing of five American Depository Receipts (ADRs) for Chinese companies Zai Lab, ACM Research, Hutchmed, BeiGene and Yum China, if these companies fail to disclose information on political and regulatory risks in their financial reporting. Geopolitical tensions added to the explosive mix of external factors. The Chinese government denied reports that Moscow had approached Beijing for support in the war against Ukraine. There were also rumours about potential US sanctions against Chinese companies that continued to do business with Russia.

As China enters the year of the tiger, not all of the qualities that folklore attributes to this agile predator – courage, power, drive, optimism, competitiveness, unpredictability, confidence and risk appetite – are reflected in the capital markets. The Financial Stability Development Committee – chaired by Vice Premier Liu He – eventually managed to turn the stock markets around on Wednesday, 16 March. Liu He indicated that the interests of investors would be given greater weight in the government’s regulatory decisions. For example, support was announced for companies seeking to get exchange-listed abroad. In addition, he outlined monetary policy stimulus measures to boost the Chinese economy, which has been struggling with the impact of the government’s zero-COVID policy and rising commodity prices. A governor of the People’s Bank of China (PBOC) said that the goal was to promote stability in the capital markets and to strengthen small and medium-sized companies in particular.

Fiscal policy loosens again while monetary policy remains restrictive

The tightening of monetary policy continues

The tightening of monetary policy continues
Sources: Macrobond, Bloomberg, Union Investment, as at 18 March 2022.

Growth supported by monetary and fiscal policy

The objective is clearly to make the growth forecast of the National People’s Congress achievable. For 2022, the Congress expects gross domestic product (GDP) to grow by 5.5 per cent. Beijing acknowledges the weaker external macroeconomic environment and increased global risks, but intends to respond by stepping up its own economic stimulus measures. Once again, infrastructure (the expansion of the power grid, the transition to a greener economy, data centres, etc.) seems to be the primary focus.

Our economists are slightly less optimistic. Provided that no lengthy lockdowns are imposed, they expect Chinese GDP to grow by around 5.3 per cent this year and by 4.5 per cent in 2023. The crisis in the real estate industry, which was triggered by the imposition of tougher regulation to reign in soaring debt levels in the sector, should remain limited in scale. This means that China will definitely remain a driving factor for global economic growth. Its national economy is no longer growing as rapidly as it used to, but it is still outpacing global economic growth, despite the fact that China’s economy is now the second largest in the world. The fact that China’s central bank plans to cut interest rates by another 10 basis points should provide support. And the Chinese government intends to increase its fiscal deficit by 2.7 per cent, in contrast with its austerity-oriented approach in 2021. Healthy growth will thus be supported on both fronts.

Fiscal policy loosens again while monetary policy remains restrictive

Fiscal spending clearly up again in 2021

Fiscal spending clearly up again in 2021
Sources: Macrobond, Bloomberg, Union Investment, as at 18 March 2022.

Supply chain disruption not a major concern

It remains to be seen whether Beijing will be able to uphold a zero-COVID policy amid the spread of the more transmissible Omicron variant. The political will is certainly there. In any case, our economists believe that the impact of the Omicron wave will remain limited. The Chinese government has been consciously prioritising the needs of the manufacturing sector in its approach to lockdowns. As a result, production can often resume after just a few days and interruptions are mostly minor, even when cities are placed under restrictions. This also serves to minimise the impact on international supply chains. In addition, these new lockdowns are occurring while the West is entering a phase of the economic cycle where the lifting of pandemic-related restrictions is allowing demand to shift from goods towards services. This means that demand-side pressure in the market for goods will ease and inventory levels will also start to normalise again.

The combination of historically low equity market valuations and signs of a positive environment for profits is therefore currently boosting the appeal of equity investments in China. However, we are retaining a neutral positioning due to lingering regulatory uncertainty. We continue to see opportunities in the field of renewable energies while steering clear of property developers. Chinese government bonds should make gains in the expansionary monetary policy environment. But the stimulus measures may also keep prices in the global commodities markets higher for longer because China will remain on the scene as a major buyer.

 

As at 18 March 2022.