Written by: Henry Ince | Hargreaves Lansdown
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2024 is the Year of the Dragon, beginning on 10 February.
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China’s economy grew at 5.2% during 2023, marginally ahead of their target.
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In the Chinese New Year, all eyes are on policymakers to reinvigorate investor sentiment.
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Volatility is likely to remain elevated in 2024 and beyond.
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Valuations remain at depressed levels, which could favour the brave.
Last year was the Year of the Rabbit, which is often associated with gentleness and serenity, but for investors in China, 2023 proved far from tranquil. The looming question as to whether the economy would meet it’s 5% target – the lowest in decades – sparked debate amongst analysts and economists throughout the year.
Although the economy crawled over the line to record full year GDP growth of 5.2%, meeting this target doesn’t mask the ongoing challenges policymakers face. Deflation, debt, record youth unemployment and a declining population is to name just a few.
Policymakers have taken broad based, incremental measures to support the economy. However, we are yet to see a ‘bazooka’ or a game changing policy to reassure the market who are calling for decisive action to be taken. Any major developments here could help confidence and provide short-term support for markets. But should this be fuelled by more borrowing; it could do more harm than good in the long run.
The degree of China’s underperformance in 2023 was stark. Over the year, the FTSE China index fell 16.63%, primarily driven by challenges in with the real estate sector. Given the weighting in Asian and Emerging Market indices, it’s impact at a regional level was significant.
Sentiment is negative to say the least and it appears that investors are starting to run out of patience. Foreign direct investment (FDI) into China turned negative for the first time since the late 90’s and data from the Investment Association (IA) has highlighted sustained outflows from China/Greater China Funds over the 12 months to November 2023.
HL’s most recent survey highlighted that investor confidence towards broader Global Emerging Markets has been increasing since November. However, over the same period, flows on the platform into IA China/Greater China funds have been negative.
Strap in for further volatility
As we approach the Chinese New Year – The Year of the Dragon, the world’s second largest economy appears to be on a difficult path. Despite its recent setbacks, the symbolism of the Dragon, representing success, strength, and power, echoes the qualities China has demonstrated during its multi-decade ascent.
It’s also associated with being brave and courageous, two traits that would seem crucial to investing in China right now. But there may be reasons for optimism.
While economic growth has slowed, it’s still expected to outpace the developed world for years to come. In 2024, the IMF is forecasting 4.2% GDP growth versus 1.4% for advanced economies and 2.9% globally.
With so much uncertainty around, Chinese shares are trading at extremely depressed valuations and well below their average over the past 30 years. We think investors have readjusted their expectations for the country. And low valuations are typically associated with higher future returns, although of course there are no guarantees.
Valuations are a good indicator of where sentiment is today. This suggests that there are opportunities for investors willing to look through the noise.
Our conversations with fund managers have painted a mixed picture, whilst some remain cautious on the outlook ahead, others believe some companies offer compelling value at current market prices.
There’s no hiding from the fact that China has seen a structural slowdown in growth but given the current valuation picture, looking ahead over the next five to 10 years, this could prove to be an attractive entry point for long-term investors. HL’s strategic asset allocation framework suggests around 7% of a 100% equity portfolio should be invested in Emerging Markets, the majority of which should be allocated to China.
HL fund picks for investing in China
FSSA Greater China Growth
Martin Lau and his team look for high-quality companies that primarily operate within China, Hong Kong, and Taiwan. They favour companies with a competitive advantage that others struggle to replicate, like a well-known brand or the ability to raise prices for their products without affecting demand from customers.
Companies should also possess the potential to grow earnings sustainably over the long term and be run by reputable management teams that avoid taking unnecessary risks in the pursuit of short-term gains.
JPM Emerging Markets
Leon Eidelman and Austin Forey hunt for businesses that can sustain earnings growth over the long term. They believe most investors underestimate the potential for share price growth in companies that can grow their earnings at a sustainable pace over a long period of time. Close attention is paid to the financial strength of a business, the quality of the management team and the decisions it takes, and the level of corporate governance.
They are supported by a wider team of analysts who carry out extensive research and provide new ideas. They typically travel across the region to visit companies and gain insight into what's happening in different economies. As at the end of December 2023, China and Hong Kong collectively made up around 25% of the fund.
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