Have recent stimulus measures made China investable again?

At the top of a bull market, as investors try to justify paying bubble prices for stocks, phrases like ‘this time it’s different’ abound. At the nadir of a bear market, as they shun the bargains strewing their path, people are more likely to be heard muttering ‘permanently uninvestable’. 

For the past few years, that sort of perma-gloom has surrounded Chinese equities. China’s economy has been in a slump since the pandemic. The country’s locked-down and laid-off workers did not enjoy state-subsidised pay cheques and those lucky enough to have jobs want to spend rather than save. 

The government has been clumsy at best in its handling of tricky challenges in recent years, pouring ice-cold water on the overheated housing market and clamping down aggressively on entrepreneurs considered overpowerful. 

Looking ahead, there is the deadening weight of a potential second Donald Trump presidency and his threat of 60% tariffs on Chinese imports¹. 

Investing in China through all this has required courage and a belief that the slowdown is temporary – cyclical rather than structural. Recent announcements from the Chinese government of policy measures to stimulate the economy now support that belief. 

But is this enough to turn the tide? Is China really becoming investable again?

Momentum and buybacks

We saw the start of more supportive China policy at the beginning of the year but then hit an air pocket when policy support stopped. This latest series of measures, unveiled early last week, is a sign that policy momentum may once again accelerate. 

First, we saw interest rates reduced on multiple bank instruments (mortgages, short-term central bank deposits and banking reserves)². One of the biggest surprises – and what helped power the stock market higher – was the swap facilities put in place to allow financial institutions to buy equities, and companies to buy back their own stock³. 

If companies really do use the Rmb300bn (£32bn) relending facility, we could see another 2.5% of share buybacks in the A-share market, on top of the 1.2% we have seen so far this year⁴. A total 3.7% of share capital bought back is not a bad start in supporting equity market prices.

These measures by the People’s Bank of China (PBOC) – the Chinese central bank – are innovative and reminiscent of the US Federal Reserve in recent years starting to flex its balance sheet power to target certain areas of the economy. They mark an additional shift in policy direction, which is more focused on correcting asset price deflation. In May, the PBOC started to target house price deflation with a funding facility for local governments to buy up excess housing inventory. I believe this intervention in the stock market is similar.

The question is whether this will be a flash in the pan. We have had multiple false starts. There are concerns, for instance, that the government is relying on non-wholly-owned government and private institutions to deploy capital in the stock market rather than deploying it directly itself. 

For me, these measures are putting the kindling in the fire for an equity market rally. The liquidity is in place to be tapped. 

Whether these non-bank financial institutions will want to use the swap facilities remains a question. I am still unsure why insurers, mutual funds, brokers and the like would want to allocate more to equity. They seem to have little current appetite. 

For me, these measures are putting the kindling in the fire for an equity market rally. The liquidity is in place to be tapped. 

Sense of urgency

What investors have been really calling out for is fiscal stimulus. China cannot reinvigorate its economy by building more electric vehicles and solar panels. It needs to balance supply with demand. Chinese households are sitting on large and growing savings but they do not have the confidence to spend yet. 

Last week we saw the first signs of urgency to tackle this problem with force. President Xi Jinping convened an out-of-schedule politburo economic meeting⁵ where there was a change in tone with the focus on stalling the drop in house prices, boosting consumption and promoting the private sector.

On their own, the measures seem unlikely to be enough to support a continued China market rally, and we may see the rally fade going into the US election if Trump still has a strong chance of returning to the Oval Office. 

Chinese households are sitting on large and growing savings but they do not have the confidence to spend yet. 

Nevertheless, if we take a longer-term view and see the stimulus as a sign that the message of economic malaise has got through to the very top – to Xi – we can be more confident of further support to come. If this is targeted towards fiscal stimulus, then China could see a significant rally both on the fundamentals and on the premium the market is willing to pay. 

The question for investors is how to navigate this shifting landscape to their advantage. We have had a couple of small positions in China for a while. In both cases we felt that, regardless of the macroeconomic noise, the companies looked well placed to deliver earnings growth and strong free cashflow. 

In China, you have to invest with the policy momentum.

We have added to these positions and are examining others, particularly consumer stocks. If there is policy follow-through, it is likely to be targeted at sparking consumer demand rather than the historical favourites of infrastructure and property development. 

Of course, a Chinese recovery also creates indirect opportunities for other companies, particularly in the luxury space, which has seen large drawdowns as the Chinese economy has stumbled. There are many European fashion houses that will be cheered by a recovery. 

In China, you have to invest with the policy momentum. There are hurdles ahead but the picture looks more optimistic than it has in a long time – and it is not just Chinese companies that are set to benefit.