Since 2020, economic growth in China has been heavily affected by policy tightening and Covid lockdowns. As a result, 2022 saw the MSCI China index decline 23.5%, underperforming the MSCI Emerging Market Index. Nevertheless, the case for investing in China remains strong, due to recent policy changes implemented to drive growth, says Colin Liang, head of China, Redwheel.
Zero Covid Policy Hangover
Despite an early recovery from the pandemic in 2020 and 2021, China's zero-Covid policy deeply affected its economy. Lockdowns in major cities hindered business. Rising unemployment and mass layoffs in the internet sector drove investor pessimism. Consumer confidence fell to a historical low, while household saving rates reached a record high in 2022. Since the zero-Covid measures were lifted in December 2022, China has quickly opened and we expect demand in certain sectors to be strong, economic activity to recover, and consumption to return to a growth trajectory.
Strong sectoral structural growth
We are bullish on selected sectors that manifest structural growth ahead - including internet, healthcare, consumption and property. From the supply side, sector consolidation has accelerated during the Covid period, and industry policies have signalled to turn supportive. From the demand side, it has been strong in travel since the reopening. We expect general demand to recover throughout the year.
In particular, the real estate sector underwent a rollercoaster ride in 2022, as new measures signalled a U-turn of the 2016 policy (when authorities tried to stem rapidly rising home prices). The China Securities Regulatory Commission recently reopened a door for real estate companies to raise funds through share sales and domestic bond issuance. This new credit stream has allowed many private developers to breathe a sigh of relief. The revival of real estate demand should now follow the lifting of Covid restrictions.
A new chapter has arguably begun, although it is unlikely to match the 2021 record. We are actively positioned in this sector, with property companies set to benefit directly from a potential housing market recovery.
Promise for domestic policy
Domestic policy has driven volatility in the Chinese equity market, but a top-down approach combined with bottom-up stock picking enabled us to avoid certain difficult sectors in the past 3 years, when policies started to turn south.
Our first experience was at the beginning of 2021, when most investors were lenient to new policies in regard to education and the internet. We correctly interpreted that valuations didn't make sense at the time for a slower growth outlook, which allowed us to avoid losses in some key names.
Then again in October 2022, when Xi unveiled his new government of loyalists, the market was overthrown by pessimism, believing China would second economic growth under the new leadership. Our view was that once the leadership was formed, a cohesive and integral government would be more committed to streamlining and executing policies, with an understanding that the Covid policy would not last forever.
Whilst uncertainties in the Chinese domestic market have proved challenging, new policies are now addressing the economic predicament, from the relaxation of the zero-Covid approach, to credit support for property developers, and loosening regulation on internet players. These supportive measures and policy-setting in 2023 look promising and demonstrate that the leadership is bringing economic growth back into focus.
Geopolitical tensions
Geopolitical dynamics took centre stage in 2022. Global events such as Russia's war on Ukraine took a toll, and the concern of sanctions on China flustered the equity market. US-China relations experienced multiple obstacles. Nevertheless, tensions quickly moderated, which surprised the market.
An eventful 2022 has continued into 2023, with spy balloons catching headlines. Nevertheless, we are less concerned about the potential risk with Taiwan escalating in the foreseeable future. In the three white papers on Taiwan publicised by the government so far (including the latest one post-Pelosi's visit), "peaceful settlement" is a principal guideline to the "Taiwan question".
Tensions escalated last August, before which Xi Jinping was not even thinking about a military threat - and he has a history of changing his mind fairly quickly.
Take for example the Covid reopening, and the ‘One Belt, One Road' policy - Xi was willing to tone down these policies when the economy hit roadblocks and required a rebalancing. Furthermore, if support for Kuomingtang, the China-friendly opposition party in Taiwan continues to progress into the 2024 elections, it's likely that China will restart a dialogue about how to achieve more peaceful collaboration.
We believe the Chinese stock market remains a fertile ground for stock pickers, not only because it is the second largest economy in the world and growing healthily, but also because there have been structural inflows behind it. Overall, we see political, economic and Covid policies aligned in the domestic market.
The outset of 2023 looks to be constructive for Chinese equities and we are particularly positive in the consumption, healthcare, property and internet sectors, not only for cyclical recovery, but also for intrinsic sustainable growth.
By Colin Liang, head of China, Redwheel
