Friday, Oct 8th 2021

Is China still “investable”? We think so


A recent flurry of regulatory actions from Chinese authorities have raised alarm bells for investors.

Restrictions on video game play, cryptocurrency activity, heightened scrutiny on the handling of user data by consumer internet firms, and new processes for Chinese companies listing abroad have all garnered headlines over the last few months. Regulatory scrutiny has also put pressure on China’s real estate sector, with the ongoing collapse of developer China Evergrande Group the most visible example.

Owning shares of U.S.-listed Chinese companies has always been accompanied by regulatory uncertainty. On this count, today’s environment is no different.

Investment firm Marshall Wace called U.S.-listed Chinese stocks “uninvestable” in mid-August. This week, the CIO at Soros Fund Management said the firm is not putting money into China right now.

Given the unpredictability of regulatory actions in China, we appreciate these concerns and understand the caution from other investors.

But our experience tells us that the most attractive entry points often arise before an investment’s hardest questions have been answered. Our work today is focused less on whether we maintain investments in China, but rather at what point will it be appropriate to increase our current exposure.

The most recent bout of regulatory actions from Beijing brings with it three primary factors we’re grappling with: duration, intensity, and scope. In other words, as investors we must try to think through when these pressures will ease, how far these regulatory measures might go, and what sectors of the economy beyond those mentioned above are at risk.

Next fall, the Chinese Communist Party will host its 20th Party Congress, an event at which it is expected Xi Jinping will set a new precedent in serving a third term as General Secretary of the Chinese Communist Party. Beijing’s new, more aggressive regulatory stance should remain in place throughout the run-up to this event, and everything will remain on the table as Xi seeks to consolidate political and electoral support.

But viewing these actions as strictly hostile towards a market economy is, in our view, an overstatement of the threat Beijing poses to its private sector. Like its counterparts in the West, Beijing views the “market mechanism” as an efficient and healthy way to grow its economy. But unlike most Western governments, the CCP believes in taking an active and explicit role in directing the private sector to achieve what it considers national prosperity.

Over the last decade, China’s biggest companies have been from the industries that investors around the world have favored: e-commerce, fintech, ride sharing, and delivery. Party officials have more recently emphasized investments in smaller businesses focused on producing power equipment, sensors, and semiconductors.

Xi and his allies are clearly focused on boosting China’s manufacturing capabilities by funneling financial, human, and political capital into production-oriented sectors and away from “softer” areas like consumer technology.

Overall, we view Beijing’s recent actions as more of a difference in style than in kind. The CCP does not want to choke off access to capital markets for China’s biggest companies, but more closely manage which companies gain this access and at what pace.

Right now, we believe Chinese stocks are investable and our analysts are working hard to find additional opportunities to deploy capital into China. Access to the world’s second-largest economy and over 400 million middle-class consumers is a reward we believe is commensurate with today’s risks and current valuations.

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