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Written by: Darius McDermott
12/02/2021
It’s out with the Rat and in with Ox this month, as China celebrates its New Year.

Celebratory traditions include the passing of red envelopes to people of all ages – as a way of sending both luck and money. The event also typically brings about the world’s largest annual migration, with more than 200 million mainland Chinese travelling long distances to reunite with their families.

However, there is nothing typical about this year, with the Chinese government asking people not to travel – in some cases they are offering migrant workers incentives (cash and free food) not to do so.

As we know, China was ground zero for Covid-19, but it has also managed the pandemic better than most – the result being a faster recovery, making it an attractive story for investors.

China was the only nation to register economic growth in 2020 (up 2.3%*), and the International Monetary Fund has estimated this will increase to 8.2% in 2021 (more than double that expected from the developed world)*.

The Chinese stock market was equally robust during the Year of the Rat – when the global stock market fell more than 25% in February 2020, the Chinese stock market fell just 10%. It has returned just shy of 40% over the year, compared with 12% for the rest of the world**.

But have reluctant investors missed the boat? Matthews Asia investment strategist Andy Rothman says China’s ability to get Covid under control has resulted in a V-shaped recovery which has almost run its course. He believes the final 10% of the recovery is going to take some time, adding this is “not because the Chinese consumer does not have the money or desire to spend, but because they are still nervous about Covid despite there now being very few cases or deaths in the region.”

The consumer story has two layers to it – the short and long-term. We’ve seen some exceptionally resilient figures from the Chinese consumer in 2020. For example, Chinese e-commerce giants Alibaba and JD.com have racked up around $115bn in sales across their platforms during the Singles Day shopping event in November 2020, both setting new records.

The long-term trend is the growth of the middle class in the region, estimated to reach 1bn by 2027 – as the shopping festivals indicate, the consumer is already focusing in on brands and higher priced options.

Consumer growth is also fundamentally linked to the technology sector, which, like the US, is also driving growth. But there are challenges on the horizon – with concerns over how powerful these tech companies have become.

In November 2020, the central bank and regulators released draft rules on microlending, which included provisions such as capital requirements for technology firms offering loans. China’s State Administration for Market Regulation also published draft rules looking to stop monopolistic practices by internet platforms.

There are also geopolitical concerns, for example relations between the US and China have worsened as a result of Covid-19. Importantly the trade war between them is only part of the problem – with technology and possible financial disputes also appearing. While a Biden presidency may calm things to a degree, the tensions will remain.

Debt is also very high – for the government, companies and now individuals. The banking sector is one that many professional investors avoid as a consequence.

The last issue is companies are no longer looking cheap relative to history. Fidelity China Special Situations manager Dale Nicholls says while valuations are not as compelling as they were, there could be opportunities for smaller companies.

He says: “Overall, the backdrop still looks pretty positive. It’s just going to be a market where you’re going to have to focus on stock picking, as opposed to just relying on overall market performance.”

More companies are being made accessible to foreign investors through Chinese A Shares. These are shares of the companies based out of China which are traded in Renminbi (the local currency) – giving investors the opportunity to tap into a wider range of opportunities.

I believe in the China growth story longer term, but investors must accept periods of volatility – and patience is essential. China specific vehicles worth considering include the FSSA Greater China Growth fund, Invesco China Equity, Fidelity China Special Situations and JP Morgan China Growth and Income Trust. Those who prefer a wider Asia offering may like the Matthews Pacific Tiger fund.

*Source: IMF, World Economic Outlook, October 2020

**Source: Source: FE fundinfo, total returns in sterling, 25 January 2020 to 5 February 2021

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Darius’s views are his own and do not constitute financial advice.

Darius McDermott is managing director at Chelsea Financial Services

 

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