The fog has seemingly begun to clear around China’s troubled economy, with investment executives identifying numerous attractive investment opportunities amid the negativity.
In recent months, the world’s second-largest economy has shown signs of recovery, with the Hang Seng Index up 5.41 per cent as at 27 June.
The MSCI China Index, too, has returned around 6.76 per cent year to date as of 31 May, bouncing back from an annual performance of -11.20 per cent in 2023.
According to James Cook, investment director of emerging markets at Federated Hermes, valuations in China are “compelling” and many individual stocks are trading at single digit price-to-earnings multiples with “unusually high” dividend yields.
Outlining the case for a rebound in 2024, he said: “Our conviction has grown as short-term uncertainties, while real, have faded in importance relative to the rarity of the long-term opportunity.”
He stated that various developments have improved China’s macroeconomic outlook, leading to a rise in stock prices.
These developments include a resilient economy growing at an annual pace of 5.3 per cent, government-mandated purchases of large-cap stocks by state-owned funds to boost benchmarks, and reduced downward pressure on the renminbi as the US Federal Reserve transitions to an easing cycle.
Examining China’s property market, which notably weighed down the economy last year, he highlighted positive policy measures such as reduced mortgage rates and down payments for first-time buyers, the removal of home purchase restrictions in major cities, and local governments purchasing unsold homes for social housing to alleviate excess inventory.
“The fundamental bottom of China’s bear market may only come with clear signs of life in the property market,” Cook said, adding that China “has been throwing everything” at addressing this troubled sector.
Currently, he noted that the MSCI China has surpassed crucial technical resistance levels above the 200-day moving average. However, Chinese equities are still trading at low multiples and are experiencing near-record significant discounts compared to their historical averages.
Going bargain hunting
Much of the market pessimism has caused investors to overlook the positive changes that are happening within many excellent Chinese companies, T. Rowe Price portfolio manager Wenli Zheng observed.
Specifically, he highlighted industries such as railway equipment, ultra-high-voltage power grids, and nuclear power, which are currently driven by increasing demand in their respective markets. Additionally, equipment suppliers in these sectors are benefiting from high industry concentration and ample reserve capacity.
“After experiencing a prolonged period of downturn, these traditional sectors have temporarily fallen off investors’ radar screens. Consequently, the market may not fully recognise the positive changes in their fundamentals,” he said.
He also identified new growth leaders in areas with lower penetration rates, like online music and online recruitment, that have been experiencing rapid growth through technological innovation.
“Moreover, the electrification revolution is not only driving the automotive industry, but it is also rapidly improving the competitiveness of Chinese companies in sectors like engineering machinery, excavators, and landscaping equipment,” he said.
Zheng noted China boasts a “deep, liquid market” with over 6,000 listed companies with a total market cap of over US$10 trillion, and more importantly, it remains one of the least efficient stock markets globally. Retail investors comprise some 70 per cent of A share trading volume with an average holding period of less than 20 days, he said.
“Inefficiencies create opportunities, and from a bottom‑up perspective, we are finding many attractive investment opportunities in China in 2024. It is possible to find good‑quality companies with an average P/E ratio of around 13x and consensus 2024 earnings growth close to 20 per cent.
“The current investor pessimism toward China is already fading, which reinforces my conviction that China is well positioned to provide good potential long‑term returns over time,” he said.
Glass half full
Dr Joseph Lai, chief investment officer at Ox Capital, also asserted there are plenty of opportunities available in China for managers who seek winners.
Speaking on Fidante’s Finding Alpha podcast this month, he explained China’s equity market is “flashing green”.
“Optimism on China is really underpinned by the fact that the average income level in China is reasonably low, and the economy seems to have bottomed, and we think there are lots of opportunities available if we can identify the quality franchises that can grow into the future,” he said.
“In the medium term, the economy has undergone significant economic adjustment with the problems in the property market, and we believe that the bulk of adjustment has been done. If anything, we think the economy appears to have stabilised, helped a little bit by the stimulation by the authorities there.”
In this environment, he believes the de-rating of equity valuations has presented an opportune time to “look for the great companies of the future”.
