We expect ongoing or increasing support to restore confidence and support activity as the Chinese economy completes a rebalancing towards consumption and value-added manufacturing
While there are some genuine reasons for concern, such as the untenable debt levels amongst many real estate developers, a disconnect has emerged between market sentiment. This is indicated by current valuation levels and headlines in the press versus what we are seeing on the ground. Many Chinese companies are trading at historically low valuations, making China one of the cheapest major stock markets in the world. However, recent activity data suggests that the beleaguered economy has found a firmer footing. Indeed, both consumption and manufacturing are showing signs of improvement towards the end of last year.
Earnings growth is critical
Of course, cheap valuation alone is not enough to mount a sustainable recovery in the stock market. Earnings growth is also critical. This is where the disconnect is apparent – between a company’s fundamentals and its share price. The last three years have presented Chinese companies with incredible challenges: weak demand, operational issues, and widespread uncertainties. Despite this, many high-quality names have delivered resilient earnings. We still expect high single-digit earnings growth for the overall market this year as the benefits of monetary and fiscal stimulus take hold.
So far, consumers have set the pace for recovery and any changes to this will be influenced by how their income and employment prospects measure up in 2024. There is an inventory re-stocking cycle underway, albeit with a few expected bumps, which could push companies to hire more people or offer better compensation to existing employees. Retail sales have also increased month on month while the high savings rate is showing signs of returning to pre-Covid levels as a semblance of normalcy has been restored. The market is estimating consumption spending to pick up this year.
The role of central government
The central government has been reluctant to use large, direct fiscal stimulus to spur consumption for several reasons including the need to maintain a stable renminbi in the face of a strong US dollar and to avoid creating bubbles in the economy. That said, the government has implemented over 70 smaller scale, but crucial measures whose cumulative effects should not be overlooked. If needed, the central government still has the leg room to add additional fiscal stimulus. We expect ongoing or increasing support to restore confidence and support activity as the Chinese economy completes a rebalancing towards consumption and value-added manufacturing.
For confidence in the broader economy to return in a sustainable manner, stabilisation of the property market is vital, and this is where we anticipate the biggest challenges facing the authorities. Rising house prices will give consumers the confidence to spend more of the record-high savings they have accumulated during Covid. But measures such as easier mortgage access are still working their way through the sector. A major urban renewal plan has been launched, similar to the redevelopment of shanty towns in 2016 and 2017, whereby the government plans to give homeowners compensation to leave their homes for renovation. Other significant policy steps were only taken in December – such as the lowering of downpayment ratios in Tier 1 cities. So far, these measures have had marginal impact on the sector, but with time, we expect to see a turnaround come through as there remains vast pent-up demand for houses, particularly in the bigger cities.
Bottom up stock pickers – a cause to be optimistic
Overall, we remain optimistic that Chinese consumers will eventually start spending their savings – through consumption and by investing again in the markets. China’s growing middle-class consumers continue to trade up in areas including cosmetics, travel, food, and beverage. Growing integration amid the widespread adoption of technology bring opportunities for plays in e-commerce, cybersecurity, and data centres supporting cloud services. Policymakers globally are committing to a greener and lower carbon world, and China is in the driver’s seat as investments in renewable energy, batteries, electric vehicles, related infrastructure, and environment management all have a bright future. Growing baby boomers are driving demand for healthcare products and services. Structural growth for consumer finance and increasing asset allocation to capital markets amidst declining property sector also offers opportunities. For bottom-up stock-pickers, these are important themes giving us cause to be optimistic.