Ten points on China

David Gaud, Asia CIO

Ten points on China

China has been at the epicentre of many long-life news stories that have commanded investors’ attention over the past year. From its trade war with the US to its slowing economic growth and now the latest coronavirus epidemic, news impacting the world’s second largest economy has investors on edge. It is important to focus on the key fundamentals.

While the coronavirus’s rapid spread will undoubtedly hit Chinese growth in Q1, to what degree remains to be seen. In the meantime, we are focused on ten factors.

1. Chinese government action
The Chinese government was quick to react to the current coronavirus outbreak, implementing radical measures that deliberately sacrifice short-term growth for the sake of containment. In contrast, when SARS broke out in late 2002, it took the government until April 2003 to fully realise the extent of the crisis. This time the alert was raised much more quickly with the publication of more detailed and transparent statistics.

“The Chinese government was quick to react to the current coronavirus outbreak.”

2. Potential impact on the Chinese economy
SARS knocked 2% off of economic growth in 2003, with tourism and related sectors being the hardest hit. Retail sales also lost momentum, falling from 9.2% year-on-year in Q1 2003 to 6.8% by Q2 2003. Meanwhile, the Chinese property sector, fixed-asset investment and industrial production proved more resilient. We can expect a similar pattern of impact – particularly on tourism. Given the rise in e-commerce and a highly automated distribution network since 2003, retail could be less affected.

3. Economic stimulus measures
Global liquidity remains in ample supply and on 3 February the Chinese central bank injected a record RMB 1.2trn into the banking system and cut the reverse repo rate by 10 basis points on top of prior liquidity injections and rate cuts. We expect demand-creating fiscal stimulus from various levels of government further down the line, which would buttress growth and help offset contraction caused by the coronavirus outbreak. We believe the Chinese government will still target around 6% GDP growth for 2020.

4. The World Health Organisation
While the WHO has declared a Global Emergency around the coronavirus outbreak, it has stopped short of issuing a strict travel ban. This is because the current virus is only transmitted person to person, meaning trade and transport of goods is not affected. This also allows for greater coordination and financial support for containment. Furthermore, while this outbreak has spread much more rapidly than SARS, it has proved less lethal so far.

“We believe the Chinese government will still target around 6% GDP growth for 2020.”

5. The Chinese consumer
Chinese shoppers account for 58% of GDP today versus 35% in 2003. Before the virus hit, retail sales in China were holding solid and given the rise of automation and e-commerce referenced above, housebound Chinese residents can conceivably carry on shopping during the outbreak.

6. The calendar
Several Chinese provinces have extended the Lunar New Year holiday period to 10 February, while schools are suspended until early March. International corporations are implementing bans on activities with China until early-to-end March at least, while conferences have been cancelled even in Singapore. This will hurt global economic momentum whether the virus spreads further or not, so we will keep a close eye on how long China remains closed for business.

7. The domestic economy
By imposing strict containment measures, China is automatically serving its domestic economy by keeping spending and capital from fleeing the country. This could add further support to the domestic economy by redirecting funds that would have gone overseas to Chinese businesses.

8. The peak
The SARS outbreak peaked in April/May 2003 and by June the episode was over. This time the peak could come earlier, given the rapid response and global cooperation. This will be a key factor in the extent to which the economy is affected. In our base-case scenario, the outbreak will end in areas outside of Hubei at the end of February and in Hubei three months later (end-May). In this scenario, we estimate that Chinese GDP growth in Q1 may slow to 4.0-4.5% compared to our previous forecast of 6.0%. Full-year GDP growth may slow by about 0.3%, reaching 5.6% in 2020 instead of 5.9%. The new figure takes into account payback effects in the rest of the year and government policy support.

“We maintain our overweight on China, although sector selection is paramount and e-commerce players look particularly well positioned in light of events.”

9. Real estate
Chinese real estate had performed very well for the past four years up until the outbreak. The sector’s fundamentals remain extremely solid but it is too soon to tell whether the virus outbreak has brought on an early peak. We will need to watch for how February and March data evolve. February data will surely see a drop in activity due to the lockdown preventing buyers from visiting developments. March data will be key, particularly if it shows a further decline or a clear resumption of upward momentum. If demand does resume, it will bode very well for the Chinese economy in H2 2020. Conversely, if the real estate sector begins a downward trend, it will take a significant toll on the Chinese economy and growth outlook.

10. Overweight China
We maintain our overweight on China, although sector selection is paramount and e-commerce players look particularly well positioned in light of events. Beyond the current coronavirus factor, the ‘phase 1’ US trade deal and Chinese government’s ability to support the economy while avoiding any crash landing should both be supportive of Chinese growth in 2020. And while Chinese growth has slowed considerably from impressive levels, a 6% target would still prove one of the highest growth rates globally if achieved.

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