“Sometimes valuations are enough of a catalyst to justify investing somewhere.” The aforementioned quote is something that has been attributed to me in the past, most recently when it comes to Chinese equities.
After more than two years of constant pain for investors, many of the managers we have spoken to have been more measured in their outlook recently, citing attractive valuations and improving fundamentals at a company level, while the strength of the consumer must not be overlooked.
We have spoken in this column before about the regulatory crackdown by the Chinese government and the difficulties facing the Chinese property sector. However, there was hope that 2023 would be better for the region — only for the Covid recovery to slow, while the crackdown on entrepreneurs continues to hit businesses and consumer confidence hard.
No one should be surprised by any market meltdown caused by the Chinese government simply flexing its muscles — it has form for this throughout history. If you understand and appreciate these corporate governance risks, then the market is markedly cheaper than it was two years ago.
However, the news that the Biden administration issued an executive order aimed at restricting certain investments in advanced technologies in China, in the areas of artificial intelligence, quantum information technologies, and semiconductors and microelectronics, has led us to question any further investment in the country in the short to medium term.
In a nutshell, the move is narrowly targeted at investments in highly sensitive technologies and products for the purposes of protecting US national security.
Is China now uninvestable?
Regulatory concerns, coupled with geopolitical uncertainty, have weighed heavily on Chinese equities. Since February 2021, the MSCI China Index has fallen by 44 per cent, while many of its peers in the emerging markets arena have risen, including Mexico (64 per cent), India (27 per cent), Brazil (22 per cent) and Singapore (2 per cent).
To put this into wider context, the MSCI Emerging Markets Index as a whole is up 1 per cent over the same period, despite the pull-down effect of China, its largest country constituent with an almost 31 per cent weighting.
Challenges with China, coupled with the growing belief that it requires its own distinct allocation away from emerging markets, have resulted in a number of asset managers launching ex-China Asia/emerging market funds to distinguish between the two.
Others are taking advantage of the headwinds facing the country. Mexico, India, Vietnam and other locations are replacing it across global manufacturing supply chains. The same names are also tapping into the waning of China’s export dominance. Meanwhile, some investors are simply tapping into better growth stories, like Brazil.
Jupiter Asian Income manager Jason Pidcock sold his last remaining mainland China stocks in 2022, citing political concerns. He had previously been underweight the country for some time, citing lower expectations of corporate profitability relative to the rest of the region. He also felt valuations in China deserved to be de-rated, given a long period of regulatory clampdowns and travel restrictions.
