In brief

• China’s real GDP growth slid to 0.4% year-over-year in 2Q 2022, reflecting shocks from the Omicron outbreaks
• Monthly economic activities started to improve in June, and the recovery may continue for the rest of this year
• Given the vulnerabilities in consumer confidence and property sector, accommodative policies may be in place for a longer period
• Investors need to remain selective and focus on the sub-sectors with positive earnings outlook and strong policy support

According to Chinese National Bureau of Statistics, China’s real GDP growth slid to 0.4% year-over-year (y/y) in 2Q 2022. This is the lowest quarterly growth since the COVID recession in 2Q 2020, reflecting the significant shocks from the Omicron outbreaks and the corresponding stringent measures that were adopted in major cities.

Among GDP components, service sectors were hit the most severely during lockdowns, with a y/y decline of 0.4% recorded in the second quarter. On the other hand, the mining and manufacturing sectors were relatively stable and increased by 0.9% y/y. Besides, resilient demand from the domestic infrastructure investment, a strong export growth (June: 17.9% y/y) provided an additional buffer to manufacturing activities.

In June, when the strict lockdowns were gradually relaxed in Shanghai and other cities, cyclical indicators widely improved. Momentum strengthened in fixed-asset investment (June: 5.8% y/y vs. May: 4.5% y/y), thanks to the government’s infrastructure investment push and monetary easing. Meanwhile, industrial production rebounded significantly (June: 3.9% y/y vs. May: 0.7% y/y). Being supported by pent-up demand in April and May, retail sales growth picked up to 3.1% y/y (May: -6.7% y/y), which were mainly driven by demand for goods.

On the other hand, vulnerabilities still exist in the economy. Service sectors still remained under pressure from uncertainties of the Omicron resurgence, as reflected by the 4.0% y/y decrease in sales of food services. Moreover, property sector remained to be the major growth drag, mainly as a result of depressed expectations. Although tight regulatory measures were largely relaxed, a larger decline (June: -9.6% y/y vs. May: -7.7% y/y) was seen in property development investment.

Looking forward, we expect to see a steady pace of recovery in the second half of this year, mainly supported by government-led infrastructure investment. If the pandemic control measures are further relaxed, consumer confidence may resume at a faster pace and lend additional support. The property sector may still pose downside risk to growth. When the number of uncompleted homes keeps growing, banks are facing risks from deteriorating balance sheet. The scale of mortgage boycott is not large at this stage, but decisive and effective regulatory measures are necessary to prevent it from developing into a systemic risk.     

Exhibit 1: Earnings outlook differentiate among sectors in China
Consensus estimates on growth of MSCI China* earnings per share

Source: FactSet, MSCI, J.P. Morgan Asset Management.
*Sector indices used are from the MSCI China Index. Consensus estimates used are calendar year estimates from FactSet. Past performance is not a reliable indicator of current and future results. **Data for the forward price-to-earnings ratio in the real estate and health care sectors begin from 30/09/16 and 30/06/09, respectively.
Guide to the Markets – Asia. Data reflect most recently available as of 30/06/22.

Given the vulnerabilities mentioned above, the Chinese authorities need to maintain accommodative policies to stabilize expectations. Meanwhile, it is also essential to find a balance between pandemic control and economic growth.

Fiscal stimulus will continue to do the heavy lifting before consumption demand fully recovers. Local governments have completed the issuance of CNY 3.4trillion special bonds before the end of June. In addition, policy banks will provide additional CNY 800billion policy loans in 2H 2022 to support infrastructure projects and technology sectors. These measures should provide sufficient funding support to investment projects.

On the monetary front, funding costs have bottomed after sustained easing efforts. Moreover, the long-term loans started to pick up in June, which is a positive sign that corporate confidence is warming up. After the 15bps cut to 5-year loan prime rate in May, the People’s Bank of China (PBoC) may continue to use medium-term lending facilities to maintain sufficient market liquidity. In this past week, 7-day interbank collateralized repo rate has dropped to its two-year low of 1.61% per annum. There may be small downside for the interest rate for the rest of this year, but the PBoC is expected to maintain low rates to support government financing and property market. 

Investment implications

The prospect for gradual recovery and accommodative policies could lend some support to the performance of Chinese stocks. However, given the differentiated growth trajectory among different sectors, investors should remain selective when investing in Chinese stocks.   

As being reflected in consensus forecasts, technology and healthcare sectors may have the most stable growth rates in these two years. Earnings outlook for energy, industrials and utilities are resilient this year, while the growth rate in 2023 may edge lower. On the other hand, consumer sectors are subject to more pressures from weak confidence this year, but are expected to recover at a faster pace next year.

With an active management, we continue to prefer subsectors with strong policy support, including renewable energy, decarbonization, and high-end manufacturing. Meanwhile, valuations for technology conglomerates are still depressed, thereby providing opportunities for long-term investment. 

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