What to do about China?
Are there investment opportunities as the Chinese authorities look to increase the pace of growth?
China announced a cut in its policy interest rates, lowering the 7-day reverse repo rate, the rate at which it provides liquidity to banks, to 2.0% from 2.1%. The Medium-term Lending Facility was cut from 2.85% to 2.75%. This was an unexpected move. China has been cautious with its monetary policy, and despite global headwinds, has resisted aggressive stimulus.
The move reflected concerns that, despite inflation being likely to rise, the slowdown in economic activity was a more pressing concern. By example, industrial production, retail sales, and Fixed Asset Investment, all decelerated in July from their June growth.
Investment Implications
It may be too early to make sweeping predictions about the future pace of Chinese growth. Authorities in China have been sanguine, when compared to authorities in the West, as regards government support through the pandemic. This reflects concerns about the level of debt in the economy, and the political environment.
But it’s worth considering the opportunities that might exist if growth is more aggressively supported.
China Assets
The China A50 Index is at pre-pandemic levels and a third lower than highs from the beginning of 2021. Key component parts, such as banks, trade at high discounts, relative to history. For instance, China Construction Bank trades at 0.4x Book, compared to an historic average of closer to 0.6x Book. Real estate companies, a clear beneficiary of policy easing, should it eventuate, are even cheaper.
China’s technology stocks offer substantial opportunity, relative to recent, past performance. The Nasdaq China Technology Index is down 67% from its highs in early 2021. This reflects a combination of the slowdown in the economy, concerns over government intervention in the sector, and a shift to Hong Kong listings.
Given the uncertainties, it’s not yet, from a risk-adjusted perspective, worth investing in these opportunities. More clarity over both the support for the economy, and likely regulatory moves, is required to make positive decisions.
Commodities
A simpler place to start will be commodities. An increase in monetary and fiscal support for the Chinese economy has led to an increase in commodity consumption and prices.
Of course, increased Chinese demand for commodities at a time when inflation has risen across the developed world will challenge markets.
Indeed, this will be the case, with or without, more aggressive policy responses. The IEA estimates China’s oil consumption will fall in 2022 as a consequence of lockdowns. This lower Chinese demand has been important for limiting developed world oil price rises. But as China opens up, regardless of price, and stimulus, demand will rise. A double whammy of opening up, and stimulus, would pose new problems for the global economy.
With mining stocks lower than their recent peaks, this might be a good place to participate in a more aggressive Chinese stimulus package.
Conclusion
It may be too early to make an assessment of the scale of China’s efforts to increase economic growth. But it does feel as though some opportunities may arise in the next six months, dependent upon risk appetite.
Even from a defensive perspective, global equity investors need to be thinking about the impact of increased resource competition on the global economy. A higher allocation to commodity producers may be sensible at this stage.