A Guide to China
Outlook for the world's second largest economy
Check out the main trends for the world's second largest economy - China - and what opportunities there are for your investments. Based on information from Guide to China, our Chief Market Strategist for the Americas, Gabriela Santos, presents her vision of the economy and main markets.
Guide to China
Gabriela Santos (00:06)
In 2010 China surpassed Japan to become the second largest economy in the world. As we show in our Guide to China, page four, we estimate China will surpass the US to become the largest economy in the world in 2027.
Gabriela Santos (00:23)
This is a couple of years before we had estimated pre-pandemic that's because China had the only successful V-shaped recovery in the world in 2020, while the US had a more V-interrupted growth pattern.
Gabriela Santos (00:37)
What's more exciting, is China is probably going to double its GDP per capita over the next decade, as we also show on Guide to China, page four on the right. That means China's going to move from being a middle-income country with a GDP per capita of about $10,000, similar to Brazil, to being a high-income country with a GDP per capita of about $20,000.
Gabriela Santos (01:04)
Now, this is a journey that very few emerging markets do successfully, and China has a plan to do so. They really plan on changing the growth drivers of their economy. From exports to domestic demand, from investment to consumption, from manufacturing to services, from low value add to high value tech innovation.
Gabriela Santos (01:31)
Now, if China is successful in this journey, which we believe they will be, then China will double the number of people in its middle-class. As we show in Guide to China, page five, that means that nearly half a billion Chinese will enter the middle class over the next decade. Imagine the growth in their discretionary spending in things like autos and cell phones and financial services and education and healthcare. And most of this done digitally.
Gabriela Santos (02:03)
The most interesting aspect for investors is that China has been opening up its capital markets for foreign investors. Investors can now access the second largest equity market in the world, as we show on Guide to China, page 33. China offers higher return potential than what we estimate for developed markets. That comes from higher revenue growth, especially from sectors like consumer discretionary, technology and healthcare.
Gabriela Santos (02:34)
Investors can also access the second largest fixed income markets in the world, as we show in Guide to China, page 46. China offers higher yields than those available in similarly rated investment grade peers and for both markets, because they're still very dominated by domestic investors, they have a very low correlation to other markets around the world.
Gabriela Santos (02:58)
Now there are many benefits to Chinese markets, but there are also risks. So it's really crucial for investors to use active management, to avoid the pitfalls and even take advantage of some of the volatility and market inefficiencies that come up along the way.
Gabriela Santos (03:15)
So the China growth story is far from over. China's big, but it's getting bigger. It's also a lot more accessible for foreign investors, and it has a key role to play in global portfolios in return, income and diversification. So China really is too big and too important for investors to ignore.
A summary of the latest trends for China (November 2023)
At the start of 2023, the pendulum had swung toward optimism about China’s economy, following the abandonment of “Zero Covid Policy” in December. Expectations for 6% GDP growth this year were floated around, Chinese equities had rebounded 60% from their late October lows, and equity multiples were in line with their averages. Fast forward to today, the pendulum has swung in the other direction: pessimism about China’s short and long-term outlook. Consensus now expects 5% GDP growth this year, equities have corrected 23% since late January, and multiples are 12% below average.
Can China turn its economy around? While growth has disappointed this year, it is key for investors to realize that a recovery has taken place. China’s economy has been recovering this year, growing 5.2% year-to-date – a step up from last year’s 3.0% pace.
However, consumption has not been as strong or as broad as expected, despite a normalization in mobility and elevated household savings. A key issue has been low consumer and private business confidence. Home price declines and uncertainty about the labor market have weighed heavily on household sentiment.
However, policy makers have pivoted toward growth-stabilization mode, with a series of measures to improve confidence. These include: relaxation of national housing policy, increased engagement with the private sector, more favorable tax policies, and increased fiscal spending.
The economic data has improved since August: 3Q GDP growth surprised positively growing 4.9% y/y, September retail sales picked up to 5.5% y/y vs. the prior month’s 4.6%, and the household savings rate finally decreased to 29% in 3Q from 32% in 1H23. If this momentum is sustained in 4Q23, the government will likely achieve its “around 5%” GDP target for 2023.
Long-term, China faces important growth headwinds, including challenging demographics and difficulties with deflating the housing boom; however, select investment opportunities exist in key priority areas in which earnings growth could exceed overall economic growth.
For investor confidence to improve it will be key to monitor: household confidence, home prices, private business investment and hiring, earnings revisions, and dialogue between the U.S. and China. Historically, Chinese market recoveries can be fast and furious, highlighting the risk of being too underweight China when pessimism is already elevated. Longer term, China’s economy will likely continue to slow down; however, investment opportunities exist in the “new new economy” sectors of business innovation, green technology, and domestic consumption.
5 reasons to invest in China
2nd largest economy in the world
In 2010, China passed Japan to become the second largest economy in the world, contributing about a third to global growth. We estimate that by 2027 it will overtake the United States to become the largest economy in the world. This is two years earlier than we had estimated pre-pandemic.
2nd largest markets in the world
China has the 2nd largest equity market and the 2nd largest bond market in the world. Only behind the United States.
Potential to double GDP per capita
More interesting than the size of its economy itself, is China's potential to double its GDP per capita in the next decade: from $ 10,000 per person today to $ 20,000 per person, which will qualify it as a country high income. Close to half a billion Chinese will enter the middle class during this time period.
Focusing on innovation
China is focusing its economy on new growth drivers, such as: technological innovation, services, and domestic demand. Instead of the factory in the world, we should think of China as a country of global consumers. It represents a unique opportunity for diversification.
More accessible markets to global investors
Global investors can now access China’s domestic equity and bond markets. These markets provide the potential for higher return, higher income and diversification. Investors are still underweight Chinese markets given their size and the benefits they provide to portfolios.
The right way to invest in China
- Invest alongside areas where there is policy support: domestic consumption, hard technology, energy transition
- Think as long-term as policy makers, because these periods of short-term high volatility are normal in Chinese markets
- Focus on local markets: A-shares for equities and local currency government bonds
- Take advantage of moments of crisis when stocks and bonds of good quality companies are sold off alongside other ones, creating better valuation opportunities
- Invest actively with a manager that can do careful security selection in order to pick which companies will survive and which ones will thrive in China’s new phase of growth.
For important information, please refer to the homepage.