China's impressive recovery

The pandemic was made in China, but its impact has been significantly greater in Europe and the Americas, both north and south. Despite accounting for nearly 60pc of the global population, Asia has had less than 15pc of Covid-related deaths this year. Europe, with less than 10pc of the world’s people, accounts for nearly a third of all deaths. Same story in north America.

Third-quarter GDP figures from China will show how this materially better pandemic performance is showing up in the economic data. First in, first out and a much steeper recovery path too. Credit Suisse thinks that by the end of next year China’s economic output will be 11pc above its pre-virus level while the US, Europe and Japan will still be catching up. While services have been disrupted more than manufacturing during the West’s extended lockdowns, China’s non-manufacturing new orders are at an eight-year high.

China’s recovery is impressive. GDP fell by 6.8pc in the first quarter of 2020 when we were still kidding ourselves that this was an ‘over there’ sort of problem. It then rebounded by 3.2pc in the second quarter and will probably match today’s third quarter growth in the last three months of the year, with a rise of at least 5pc. At the start of next year, when the year-on-year comparison will be most favourable, activity could surge by as much as 15pc.

China is the only region where supply and demand have both recovered. 

It has achieved this with a much smaller fiscal stimulus package than has been employed, to less effect, in the West. By increasing its share of exports, it has managed to grow while still increasing its current account surplus. And it has, so far, avoided the second waves that are currently engulfing Europe. A string of vaccines is in development.

All of this has not gone unnoticed by the stock market. Last week, the total value of Chinese shares climbed above US$10trn, a record high and more than during the previous peak in 2015, which prompted a global stock market collapse after Beijing clamped down on over-enthusiastic Chinese day traders.

The main Chinese index, the CSI 300, which tracks shares in both Shanghai and Shenzhen, has risen by nearly a fifth this year. That’s twice as much as Wall Street. Heavy inflows from foreign investors have pushed the value of the renminbi sharply higher, a trend that has been exacerbated by weakness in the US dollar.

Although the overall valuation of the Chinese market does not look excessive, there are pockets of real over-exuberance. 

Just as the Nasdaq index has diverged from the rest of the US market, technology, consumer and healthcare growth stocks have parted company from stodgier petrochemical and financial shares which are bringing the averages lower. An index of these super-charged growth shares has risen by 76pc so far this year while value shares have basically moved sideways over the same period.

The long-term case for investing in China remains intact. In fact, you could argue that the shift in the world’s economic centre of gravity from West to East is just another structural theme that has been accelerated by the pandemic. Coronavirus has caused some fundamental changes in the way that businesses and whole industries now operate. In particular, global supply chains are being replaced by a more regional approach and this has reduced Asia’s dependence on the health of Europe and America. Today around 60pc of all trade in Asia happens within the region.

The big growth in our dependence on technology and the increasing digitisation of the economy also plays to China’s strengths quite as much as it favours the FAANGs (Facebook, Amazon, Apple, Netflix and Google) in California. China has a strong digital infrastructure and the region as a whole is at the forefront of new technologies such as 5G and artificial intelligence. Big business opportunities like autonomous driving are as likely to take off in Asia, with its technological edge and more modern infrastructure, as they are in Europe or the US.

If this sounds too good to be true, then it’s worth thinking what could derail China’s post-pandemic leadership. One concern is the dependence of the Chinese economy on a property sector that remains a key growth driver despite President Xi’s reminder three years ago that ‘homes are for living in, not speculating on’. Beijing may want to rein in China’s property developers, but it is reluctant to undermine a sector which underpins everything from industrial demand to the finances of local governments.

Investors in China also need to keep an eye on the forthcoming US Presidential election. The pandemic has overshadowed the trade tensions that dominated macro-economic debate a year ago but the stand-off between Washington and Beijing has been parked to one side, not resolved. A Joe Biden Presidency would probably be less combative and good for Chinese equities in the short-term, but there is bi-partisan support for taming the beast from the east. Trade remains a key risk.

Finally, the Chinese consumer may be gaining in confidence after seven months of year-on-year falls in retail spending, but August’s 0.5pc improvement was tepid. Spending by tourists during the recent Golden Week holiday was 30pc lower than last year, for example.

So, there are good reasons for China’s strong stock market performance this year but also a few reasons to tread carefully. A well-balanced portfolio is likely to have a decent exposure to China. It represents the future and, as they say, you should skate to where the puck is going, not where it has been. But there is a good case for hedging your bets too. One way to play the China growth story, without paying the punchy valuations attached to the likes of Tencent and Alibaba today might be the big Western commodity companies. Miners are out of favour, but if anyone does well out of China’s recovery, they will.

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