2021 Investment Outlook: Another fruitful year for Chinese equities in 2021

Mike Shiao, CIO of the Asia Equity team (HK) outlines his views on the opportunities he sees within the Chinese equity markets. With the COVID-19 situation under control, he believes consumers will play a key role in driving the growth recovery while, at the same time, the Chinese equity asset class is likely to see more investors increasing their allocation to the Chinese equity markets.

Key Takeaways

• Growth recovery is underway with consumers playing a key role in driving the recovery 
• Dual circulation will transform China into a strong domestic economy that is open to the world
• Structural allocation to Chinese equities will increase given China’s premium growth, rising index importance and broad investment universe 
• Enhanced regulations and participation from international investors will fuel ESG development

2020 is a year that we believe investors will remember well. The exuberance in January following the US-China phase-one trade deal was soon replaced by fears that COVID-19 would take over the world. Progress on finding a vaccine has been made while, at the same time, the unprecedented responses from policy makers have lifted markets. 

Chinese equities are doing exceptionally well against this backdrop. The government’s actions have contained the virus and led to a strong recovery. We believe 2021 will be another fruitful year for Chinese equities, supported not only by higher visibility surrounding the growth outlook but also by an increase in allocation to the asset class. We see more investors having a dedicated China allocation given its growing size and breadth of opportunities while, at the same time, environmental, social and governance (ESG) considerations are expected to gain traction.

Growth recovery extending into 2021

The Chinese economy recovered somewhat after a sharp deceleration in the first quarter due to the COVID-19 outbreak. Real GDP is expected to return to its pre-COVID-19 growth level of around 6.0% (year-on-year) in the fourth quarter¹, ensuring that China is the only major economy that can deliver growth in 2020. 

We expect the growth recovery to extend into next year as economic activities recover from a low base. This is in line with the consensus forecast that expects real GDP growth to reach 8.0% (year-on-year) in 2021². In our view, consumption will play a key role in driving growth. Although industrial production growth turned positive in April, it was not until August that retail sales growth returned to positive territory. Looking forward, we expect Chinese consumers to become more confident in engaging in social interactions given the evidence that the virus situation is under control. This will stimulate the growth of offline activities that are most affected by the pandemic such as shopping, dining and travelling.

Meanwhile, the policy environment is likely to remain favourable in next year. China will publish the 14th five-year plan (2021-25) in 2021 which is expected to feature the new economic strategy of “dual circulation”. This strategy intends to boost domestic consumption (domestic circulation) while promoting external trade and investment links (international circulation). Besides continuing with structural reforms, China will also be focused on stabilising growth under this strategy. Relative to other major economies, China has been conservative in rolling out stimulus in respond to the COVID-19 crisis and thus has more room to manoeuvre policy should growth face downward pressures in the future. 

Rising structural allocation into China in 2021

While China’s growth is expecting to reach approximately 6.0% (year-on-year) in the fourth quarter, the world will likely experience a contraction of around -2.0%.³ We expect China to keep delivering a growth premium on the back of its expanding domestic market and, in our view, this will entice investors to increase their allocation into Chinese equities.

The Chinese equity market is now the second largest market in the world⁴. There are more than 5,500 Chinese companies listed across mainland China, Hong Kong and the US, providing a large selection of opportunities mostly in structural growth areas such as the internet, consumer and healthcare sectors. Today’s market is led by a narrow group of few large-cap stocks, but an increase in allocation to the asset class will allow investors to tap into a greater number of stocks, some of which are yet unknown and hence are unique value-added sources. 

Stronger regulation and financial liberalization improve ESG disclosures

China has pledged that it will reach carbon neutrality by 2060. We believe such an ambitious commitment exemplifies China’s desire to pursue long-term sustainable growth and will accelerate ESG development. In 2020, 48% of the MSCI China companies issued ESG reports, an improvement from a mere 4% back in 2013⁵. 

We expect a strengthening of regulations to drive further improvements in ESG disclosures among Chinese companies. In fact, the China Securities Regulatory Commission (CSRC) is expected to publish guidelines for mandatory corporate disclosure on ESG issues by end of this year which will help enhance reporting practices and improve the ESG data. 

Furthermore, global investors are placing a greater emphasises on ESG issues and will stimulate ESG development, particularly as the financial liberalization of the domestic market grows. Within our investment process, we integrate ESG considerations into our fundamental analysis and actively engage with companies to promote better ESG practices. 

To finish, we believe there are key uncertainties related to the public health outlook. If the world, particularly developed markets, is hit by further waves of infections, global demand could moderate again, which would dampen the trade sector. Alternatively, a reliable vaccine could be available anytime soon, lifting growth prospects across the board. 

_{Investment risks}

_{The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.}

_{When investing in less developed countries, you should be prepared to accept significantly large fluctuations in value.}

_{1 Source: Bloomberg, Invesco. As of October 2020.
2 Source: Bloomberg, Invesco. October 2020. 
3 Source: Morgan Stanley Investment Research. As of October 2020.
4 Source: Goldman Sachs Global Investment Research. September 2020 Note: China included domestic A shares, Hong Kong, and US-listed ADRs.
5 Source: Refinitive, Goldman Sachs Investment Research. November 2020 (latest available).}

_{All data is as at 31.10.2020 and sourced from Invesco unless otherwise stated.}

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