China’s capital markets have experienced considerable change over the last year. Equities in certain sectors have come under regulatory pressure, while Chinese bonds are gaining greater index acceptance. At the same time, China has set an ambitious target to become carbon neutral by 2060.
Steve Zhang, Deputy Chief Investment Officer, Ping An of China Asset Management (Hong Kong), shared his views on the opportunities for investors at a recent panel discussion organized by Funds Europe, the business strategy magazine for Europe’s institutional investment professionals:
An ESG approach behind the regulatory actions
China’s regulatory tightening, which started in the second half of 2021, notably for education and tech companies, was a surprise to some extent, but it also reflects an environmental, social and governance (ESG) approach by the Chinese government.
The regulatory actions in the technology sector are aimed at specific areas, such as monopolies, data privacy, and video games. All these are related to the ‘S’ part of ESG – social responsibility – and to some extent ‘G’ - governance. We think it’s a proper approach -- not necessarily in having all these policies within a short period of time -- but over the long term, it’s healthy, helpful and promotes social responsibility among internet companies.
The issue of online education is related to common prosperity. Additional tutoring contributes to inequality between citizens as it is only available to those who can afford it. Online educational companies have been causing high levels of stress for families, especially in the past two years. During the COVID-19 pandemic, a lot of online educational companies took advantage of the need for families to stay at home to broadcast more often It intensified competition among students and added to parents’ financial burdens, which the government does not see as sustainable.
We think broad diversification is very important for investment, including avoiding problematic companies or sectors and focusing on the fundamentals. We must also consider the macroeconomic picture and where the government wants the country to be in the next three to five years.
Inclusion of China into major global indices
FTSE Russell is set to add Chinese government bonds to the World Government Bond Index over a period of three years. The global standard is whether it makes sense to include an investment on a risk-adjusted basis. Adding Chinese bonds to the indices opens the door significantly to passive investors. But the key question is whether it’s worthwhile to put money to work in Chinese bonds.
Compared with US 10-year yields, which is 1.45%, the Chinese yield is twice as much at 2.9%. If you look at the duration, the US aggregate duration is about 6.9 to 7 years, and the China aggregate is offering 5 years. The yield is more attractive for Chinese government securities and the duration is shorter as well.
In terms of credit rating, the US is AA or AAA, China is A1 or A+, depending on the agency, but in reality, China is safe. The government bond is offering liquidity as well as security. Also, the yuan is stable, with the likelihood of appreciation greater than depreciation in the foreseeable future. All these tailwinds are helping to make Chinese government bonds more attractive. It makes significant sense for investors to come into this market, whether they are passive or active.
China’s investment landscape
China is a big and unique market, uncorrelated with many other markets, so there are always lots of opportunities. China is growing at a stable speed: GDP growth is expected next year at 5% or 6% at least, making it a stable place for investors and global asset owners to put money to work. This could be extended to investment-grade credit as well, especially onshore credit. In the current market environment, people are trying to stay away from Chinese credit generally because of the property developer issues. This is a good window for investors, because most sectors are not really affected by property developers.
There are also opportunities in quantitative equity investing and fundamental equities. Areas such as renewable energy, healthcare, consumption and technology, artificial intelligence, big data and cloud have long-term investment opportunities, especially in the current market environment when some of the tech companies are being traded at ridiculously low valuation levels.
Putting capital markets aside, if investors are willing to sacrifice a little bit of their liquidity, then some of the less-liquid alternative investments, including private equity, infrastructure, real estate and private credit will be interesting as well.
There is a full spectrum of investments in China. Investors need to be prudent and make sure that they avoid certain sectors that are obviously not giving the kind of growth they expected or are facing headwinds because of the regulation actions. China is unparalleled as a market where a wide range of investment opportunities are available for global investors.