Strong fundamentals and overly negative investor sentiment set the stage for opportunities, argues portfolio manager
Between headlines of a deteriorating property market, falling share prices, and underwhelming economic growth, the current investment case for China isn’t nearly as appealing as it might have been before the pandemic.
But when it comes to projecting a near-term view on the emerging-market giant’s prospects for 2024, some scene-setting will be essential, argues one portfolio manager.
“The economy is delivering growth, but the disappointment relates to the pace of that growth,” said Susan Gim, institutional portfolio manager at Martin Currie, a wholly owned subsidiary of Franklin Templeton.
Given the very soft base caused by protracted COVID lockdowns in 2022, the Chinese economy should have had a relatively easy time delivering growth in 2023. But reality fell short of that expectation, Gim said, as the direct fallout from the implosion of China’s property sector weighed on the country’s growth.
“In addition, the negative wealth effect created from the property market is hampering consumer confidence and consumer activity,” she said.
To address that problematic situation, the Chinese government has pushed various policy levers over the past year, including fiscal deficit expansion and stimulus that Gim argues should have incremental upside in supporting broad economic growth.
“We expect continued momentum in property market stimulus and the capacity of local government financing,” Gim said. “We expect the People’s bank of China to continue to cut rates and the reserve requirement ratio (RRR) as well.”
Deeply negative sentiment towards the Asian country has led to a significant fall in share prices, Gim said, though she and her colleagues continue to see stable to strong fundamentals in their Chinese holdings.
“There is a dramatic divergence between the decent fundamentals at the businesses we own (i.e. sound operational delivery) and the extremely weak share prices over the last few years,” she said. “This valuation situation in China is stark. It is extreme. The only parallel we can find in modern history is the Global Financial Crisis (GFC) when clearly the situation was dramatically worse.”
While there’s some merit to the confidence issues confronting China today, Gim and her peers believe the negativity on China has gone too far, and it’s only a matter of time before the decoupling of strong fundamentals in China’s stocks and the valuations attached to them starts to decline.
“The valuation upside to historic levels is huge,” Gim asserted. “Ultimately, these compounding growth companies will deliver strong share price appreciation.”
Notwithstanding China’s recent muted growth, Gim maintains that the Chinese equity market is trading at compelling valuations relative to fundamentals, with a wealth of bottom-up stock opportunities to be seized.
She also points to a number of significant pro-growth policies focused on equity markets that have been rolled out since August 2023, including stamp tax duty cuts and the intervention of Huijin, a key sovereign wealth fund, in the purchase of large-cap bank stocks.
“Quality growth stocks in China have been impacted by foreign investor outflows from the Chinese equity market as well as lower global allocations to the EM equity asset class,” Gim said. “One recent development is the increasing probability of slower economic growth coming out of the US. In this environment, growth stocks have been outperforming in the US as investors are willing to pay a ‘growth premium.’
“However, EM growth stocks have lagged value stocks. In fact, value has now outperformed growth in EM for three consecutive years,” she continued. “We believe this has created attractive valuations for EM growth stocks heading into 2024.”
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