China’s Cruel Summer: Buying Opportunity?
July 30, 2021
Ask Forstrong: What are your thoughts on China’s recent regulatory crackdown?
Investors should not have been surprised by China’s recent regulatory crackdown. In fact, these initiatives have been well telegraphed for months before they were enacted.
Yet, it should now be clear that China is charting its own course. Increasingly, investors need to have a view on China: the country will continue to be the fastest growing market for nearly everything for the foreseeable future. The hinge of history has opened to the Asian century.
Investors should learn the same lesson from China’s recent rout: its stock market remains a policy-driven market. The latest episode has created another buying opportunity.
It’s summer time and the living should be easy. Most of us are well past lockdown low points. Restrictions are relaxed and the usual wanderlust urges have happily returned. Even for the most compulsive globetrotters, simple getaways now feel novel and luxurious. The world is bursting into color again.
Yet it is now China — the thorniest of all subjects in global macro — that is occupying our thoughts. In fact, the country has played an enormous role in our research and travels for some time now ( See our special report from Beijing ).
But what to make of China’s recent heavy-handed intervention? Let’s not mince our words: public sentiment against China runs high. And, the pandemic has stirred up emotions, amplifying our cultural differences and masking our similarities, instead of focusing on our common humanity (Freud called this the “narcissism of small differences”). Social media, and the sharing of imaginatively subversive perspectives, has only intensified these dissimilarities. In many cases, our minds are now primed for conflict before we even roll out of bed.
The dog’s breakfast of China perspectives — ranging from the most ferally populistic to full-on CCP support — has yet to congeal into a clean set of coherent outlooks. To some, the country is a hideous dystopia where surveillance invades the home and freedoms are capped. Others view China as carrying out a smart national strategy in a region brimming with economic opportunity. Many don’t know what to make of it all. Everyone seems to be looking at the same data but arriving at different conclusions.
America and China: Conscious Decoupling?
Let’s separate fact from fiction. For the last two decades, the West has bought wholesale into the idea that China’s foray into the global economy would bring it closer to a liberal democracy. And, as long as capital, goods and labor could travel unimpeded across the world, everyone would prosper. Unfettered globalization, with China being the leading source of cheap supply and abundant demand, was key to all of this.
Clearly, things did not unfold as expected. Multinational profits did not rise in tandem with the wages of workers. Wealth inequalities surged. Capital moved freely all right — the world’s financial assets are now more than three times larger than the real economy. And catching almost everyone by surprise, instead of moving closer to a Western political system, China has moved further away.
Looking back, Obama’s so-called “pivot to Asia” was always a naive catch phrase for such a complex transition. It should now be clear that China is charting its own course. The latest regulatory crackdown is a case in point. Beijing has shown that, contrary to other countries, it is not afraid to shut down a profitable industry in order to achieve its longer-term goals.
On the surface, all of this sounds arbitrary and economically destructive. But consider China’s rationale. Overhauling the country’s education institutions that have been “hijacked by capital” (giving children of wealthier families an unfair edge and discouraging families from having more children due to the high cost of education) makes sense. So does protecting online food delivery workers from digital exploitation (insisting on minimum wage and other basic labor rights). And, the big one, breaking up Big Tech monopolies to level the playing field for smaller and medium-sized companies will improve overall innovation over the long run. Does any of this seem like bad policy? Hardly. It’s difficult to argue with people making good points, even when they are foreign governments. Is this unconstrained capitalism? No. But it is good for the longer-term health of the economy.
No one should be surprised at any of the above. In fact, these regulatory initiatives have been well telegraphed for months before they were enacted. Our investment team had eliminated all targeted Chinese tech ETF exposure by late last year, largely based on these concerns. The lesson remains the same: China’s stock market remains a policy-driven market (even if the CCP could use a lesson or two in effective public relations).
Another important perspective that gets lost in the conversation involves corporate linkages between the West and China. Unlike the previous cold war between America and the former Soviet Union, with near-zero economic integration, the US and China remain tightly linked. In fact, in an era that is increasingly defined by geopolitical competition and a push towards economic “decoupling”, Western finance has never been closer to China. Amundi, the French asset manager, became the first foreign corporation to launch a majority foreign-owned wealth management business last year when it partnered with Bank of China. BlackRock, the world’s largest asset manager, recently confirmed that it had received regulatory approval to start a wealth management joint venture with China Construction Bank. The West’s most globally dominant banks are embedding themselves deeply into the country. China is obliging them, opening its doors wider than ever to foreign firms.
The reality is this: China will continue to be the fastest growing market for nearly everything for the foreseeable future. China’s retail sales are larger than America’s, and China is the largest market of nearly all consumer goods, from autos to personal electronics and luxury goods. Foreign business will not abandon the Chinese market any time soon.
Beijing’s domestic policy has also been making significant adjustments since the beginning of the Trump administration for a protracted economic war. The way to fight isolationist economic policies and protectionism is to increase the openness of your own economy. In recent years, China has significantly dropped controls and restrictions on foreign ownership. In the end, capital will flow to where returns and growth are higher.
Investing in China comes with risk. We get it. But whether investors agree with Chinese government policy or not is irrelevant: increasingly investors need to be informed on the country. The hinge of history has opened to the Asian century. And, a huge share of humanity is still to join the modern economy, many of them in India alone. Understanding this increasingly Asian growth-driven world, and how these regions are stitched together in our sprawling, global economic ecosystem, is becoming increasingly crucial to get right.
But what to make of the current selloff in China? Many of China’s Big Tech stocks have declined more than 50% from their highs earlier this year. A tactical bounce from here is highly likely. Yet the tech sector remains richly valued, as it does across most of the world. However, the rout has also led to indiscriminate liquidation across all sectors (most of which are not in the crosshairs of China’s regulatory crackdown). China’s value index, tilted toward financials and consumer discretionary sectors, trades on low earnings multiples and is primed to benefit from China’s emerging reflationary efforts and new credit cycle. Chinese regulators are also adopting a far more constructive tone, aiming to restore confidence in domestic capital markets. Investors should start to accumulate positions here.
Looking out further, the ascent of China as an independent economic center of gravity is an enormous advantage for global asset allocators. With diverging economic trajectories and monetary policies (especially from America which, in the post-war period, has functioned as the de facto leader of world order and economic stability), macro trends in China are highly diversifying. Chinese assets reflect this showing among the lowest correlation to rest-of-world stocks and bonds. And, while the West’s government bonds bury themselves deeper into subterranean yield levels (recently hitting record lows in real terms), investors will increasingly be driven into the positive real yields of China’s bond market. Our investment team will be tracking China’s dynamics closely in the period ahead. In the meantime, get back to the beach and let us do the worrying.