Hong Kong-China Equities: A Supportive Backdrop, But Headwinds Remain
A recovery in economic activity and additional stimulus measures are providing a supportive backdrop for Chinese equities—but volatility could remain in the near term.
After the latest COVID outbreaks have come under control in China, economic activity has been rapidly picking up again. The government has been actively committed to restoring production and supply chain disruptions caused by the lockdowns—and we believe that supportive fiscal and monetary policies, such as dovish central bank positions and accelerated deployment of infrastructure investments, will likely support a sequential improvement of the macro economy. We also expect domestic consumption activity to rebound and normalize from the lockdown restrictions with the reopening of the Chinese economy, although COVID remains a potential risk going forward. At the same time, easing regulatory policies around internet companies and the property market could help China’s economy reach its ambitious growth target for 2022.
On the other hand, external demand, particularly from the U.S. and Europe, is expected to weaken on the back of inflationary pressure and hawkish central bank policies, which could create headwinds for the export-driven manufacturing sector. However, this could also provide some relief to commodity prices, which are expected to benefit the overall Chinese economy, especially the companies that are price-takers of rising costs. In addition, there are a number of other factors that could provide a positive surprise, including a reduction or removal of import tariffs by the U.S., moderating of the hawkish U.S. monetary policy, or a de-escalation of the war in Ukraine.
A Constructive Outlook
In the coming months, the Chinese equity market could still be vulnerable to some volatility as company results for the second quarter are being reported. However, investor sentiment has been gradually improving. We also expect to see further stimulus measures rolled out to provide support to the Chinese economy and markets. And the recent regulatory policies, which are aimed at shaping the Chinese economy for long-term sustainable growth, could lead to new waves of structural opportunities. Against this backdrop, we have taken advantage of the recent market volatility to build positions in high-quality companies that have returned to reasonable valuations.
Looking toward the remainder of this year, we remain constructive on Chinese equities from a bottom-up fundamental standpoint, particularly due to the low base effect of the second half of 2021 on the back of easing policies. As the economy gradually normalizes, structural trends such as sustainable growth, self-sufficiency in the supply chain, scientific and technological innovations, and ecological awareness, will likely continue to unfold. We believe these factors should bolster the outlook on sectors and themes such as new infrastructure, domestic consumption, health care, technology localization and sustainability in the medium to longer term. At the same time, some Chinese companies are also benefiting from the global economic recovery, including a number of manufacturers of goods. That said, not all companies within these sectors are created equal. For this reason, fundamental, bottom-up stock selection remains critical to navigating this space.
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