The Prospects for China in the Year of the Dog
We are constructive on the Chinese economy and Chinese asset classes in the Year of the Dog. Opportunities still remain within Chinese equities and debt issuance still remains healthy in the Chinese debt markets. Let’s look at the three areas—the economy, equities and fixed income.
The economy: 2017 GDP of 6.9% was the first annual growth increase since 2011 – most investors earlier on in 2017 didn’t expect this. We expect this broad-based growth to continue into 2018, albeit slower than previous years as credit activity moderates due to de-leveraging, pockets of further regulation and tightening in some financial sectors (particularly WM products). DeAM China GDP forecasts for 2018 remain at 6.5%. PMI’s remain solid. Recent trade data remains a bright spot, especially imports of commodities, whilst inflation is likely to rise from low levels, but within PBOC targets. We still expect economic restructuring, capital market liberalization to continue whilst redirecting credit to more efficiently run corporates to continue. Economic risks however remain, such as too much financial regulation and too tight a policy towards, for example, the property market – these risks however will be carefully managed by government policy we believe. US trade restrictions will also remain to be seen ahead of US midterm elections. Overall we still expect a continuing robust China growth environment that will offer investment opportunities for 2018.
Equity markets: Near-term equity markets globally are experiencing a de-risking / de-leveraging, whilst China is seasonally heading into Chinese New Year, where liquidity remains relatively thin, which is translating into volatile Hong Kong and mainland markets. We expect a volatile few weeks as investors take a wait and see approach into the NPC meeting in March for more policy clarity, whilst A-share inclusion into MSCI in May could bring support for domestic A-share markets. For the year ahead we are still expecting low teen earnings growth for MSCI China – no change here, with the recent market correction offering buy opportunities as valuations look cheaper for global and southbound investors. The macro environment, as highlighted, also remains positive for risk assets. We favour sectors such as financials, property, consumer, internet and select materials whilst China remains a key overweight in our Emerging Markets Equity portfolios.
Fixed Income markets: As within equities, debt markets have adjusted. Profit taking in rates and credit have induced higher volatility. We see the correction as necessary for healthy medium to long-term investment. Tactically we could see further downside, however for 2018, China will remain the driving force in terms of issuance with more than half of expected new issuance. We expect around USD250bn to US300bn in issuance in 2018 for Asia, mostly in High Grade, and mostly from China. China has been actively restructuring balance sheets whilst preferring non-bank funding channels. We therefore see the recent sell off as a buying opportunity and see the carry play as a major theme in 1H18, given rising yields.
Overall investors will need to be selective and tactical. We believe the Chinese markets can overcome some of the recent short-term setbacks and expect to find further investment opportunities in the coming Year of the Dog.