China is a land rich in compelling bottom-up investment opportunities. This is based on our expectations that its domestic economy will emerge as a reliable driver of growth while the increasing digitalisation of Chinese society is opening up new markets which some companies are taking advantage of to enhance their product offerings. While selecting stocks, we favour private enterprises which demonstrate entrepreneurship and possess a notable track record in running businesses for their shareholders.
Higher earnings visibility and growth offered by domestic sectors
China’s domestic sector has grown significantly and now constitutes a dominant share of GDP. We expect the domestic economy to stage a recovery following the disruption caused by Covid-19 and remain resilient due to several factors.
Firstly, China has imposed strict control measures to contain the outbreak and we believe the government has demonstrated its capability to manage the situation. Secondly, policy support is evident with lending rates and banks’ reserve requirements being cut several times to enhance liquidity. At the same time, the budgetary fiscal deficit has increased and special Covid-19 government bonds will be issued to be used to boost infrastructure spend and employment. As such, domestic sectors such as industrial production and retail sales have been improving since March (figure 1) and we expect them to gather momentum as economic activities normalises further.
Escalating geopolitical risk led to a greater tilt towards consumer-related stocks
We have seen US-China tensions moving beyond trade to technology and finance, evidenced by US actions aimed at limiting China’s largest telecommunication equipment manufacturer's access to semiconductor technology and a tightening of regulations surrounding US-listed Chinese companies. The Phase 1 trade agreement1 has helped to mitigate tensions somewhat, but we believe they will continue. In particular, we expect it will be a key risk that investors will closely monitor in the second half of 2020 as the US election approaches.
Domestically focused companies offer higher earnings visibility and growth
Given the strength of the domestic economy and continued geopolitical tensions, we prefer domestically focused companies, with a focus on stocks benefiting from structural growth trends. We believe these stocks offer higher earnings visibility and growth, and will deliver sustained returns.