Just quietly… China becomes a tactical play too
Institutional funds and their managers tend not to talk about tactical bets, at least not in public. It’s a long-term game after all. But there are times when short-term opportunities can also match long-term strategies. Take China, for instance.
After a difficult 2021 for China and most emerging markets, much of the period being dominated by the performance of a handful of big global tech-orientated stocks, the current inflation-driven downturn has illustrated the different points in the cycle for east and west.
In the past quarter, the differences have become more pronounced, particularly with China. In the March quarter, China’s stock market was up 3 per cent compared with a fall of 11 per cent for emerging markets generally and a 16 per cent slump for developed markets. Just as the US and western markets tended to benefit from an earlier post-pandemic rise, they have also suffered from an earlier battle against inflation.
One positive current attribute of China is that the Government is moving towards more stimulatory economic policies, meaning that the market has more defensive characteristics versus the rest of the world where governments have embarked on some aggressively contractionary policies.
According to Wenchang Ma (photo above), portfolio manager for the ‘All China’ and ‘China A Shares’ strategies for global manager Ninety One, there has been a clear trend for China’s decoupling from the west since the start of the fight against the Covid crisis.
“China is easing in the cycle while the US is tightening,” she says. “So, there’s an additional diversification angle over the short term as well as the long term.”
But there is much more to the recent China story than different phases in the monetary cycle versus the west. After clamping down swiftly and, some would say, harshly in its Covid battle, China had a policy shift in systemic risk management, tightening policies for internet companies, education and aspects of financial services. This impacted the market last year, especially in the second half.
“Some industries were hammered hard, such as the internet,” Wenchang says, “Sentiment weakened and earnings revisions made it even weaker. But towards the end of last year the policy shifted to one of stable growth.”
The Chinese Government has introduced measures, such as accelerating special purpose bond issuance and rolling out consumption stimulus, for the stable growth plan, although Wenchang says the macro data indicates growth is still quite weak.
“Over one-quarter of China’s GDP generation was in lock-down or partial lock-down in the peak in Q2,” she says, with it being too early to call an end to China’s ‘zero Covid’ target. However, the central authorities have been curbing some of the excessive measures used in regional areas to combat the virus.
With respect to the regulatory clampdown on the internet and digital economy, she says the phase where guidelines were issued in late 2022 has passed, moving to an implementation phase at the operational level.
“There’s now more clarity with the policy,” she says. “The implementation phase of these sorts of changes tends to be less punitive if history is a guide… But it will take time. Earnings revisions are still trending down.”
The risk of sudden policy changes impacting various sectors of the Chinese economy as well as heightened geopolitical risks are a fact of life for investors in China. Neither are new but sometimes the risks may be more pronounced.
Wenchang says the best way to mitigate against these risks is to focus on Chinese companies which are concentrating on the domestic economy markets. When Ninety One looks at companies for both its China A Shares and its All China (for mainland companies listed outside of China too) portfolios, the focus is on all activities which may be impacted by geopolitics, such as sourcing, not just trade.
Archie Hart, Ninety One’s lead portfolio manager for its emerging markets equity ‘4Factor’ team, says: “For us, the issue with investing in China is not ‘if’, but ‘how’. We have typically been fully invested in China in recent months but have tried to cautiously position ourselves in sectors where we are aligned with government policy, and thus where risks are generally muted.”
Examples are holdings in a range of iconic local consumer brands in the dairy, drinks, meat, garment and consumer appliances industries. They are strong local brands of which the Government is generally supportive, and which are gradually “premium-ising”.
“We have also invested in a number of Chinese companies exposed to China’s world-beating technologies around clean-energy transition, such as wind power generators and electric vehicle battery manufacturers,” he says.
“We have also had a number of investments around financial inclusion in China, where China’s growing middle class is looking to make its own provision regarding long-term insurance and savings, pensions and health care – again, an area obviously aligned with government objectives.”