Chinese equities could be on the cusp of another multi-year bull market as the nation’s monetary policy begins a distinctive divergence from the rest of the world.
While the U.S Federal Reserve and other major western economies begin tightening the reins on wartime-like stimulus introduced because of the COVID-19 pandemic, China is one of the few major economies with the firepower to loosen monetary policy – and it has begun.
This month the People’s Bank of China, cut its one-year medium term lending facility (MLF) rate (this is the rate at which China lends to large commercial banks) by 10 basis points to 2.85%. It was a cut that took many analysts and economist by surprise.
There was also a 10 basis point cut to China’s one-year loan prime rate (LPR) to 3.7%. The LPR is the key benchmark which Chinese banks base their consumer loans on. It followed a five basis point cut to the LPR in December 2021 – the first cut to the benchmark lending lending rate in 20 months
Also this month, the five-year loan prime rate was reduced by five basis points from 4.65% to 4.6% — the first cut since April 2020.
Global Central Bank Update:
— Charlie Bilello (@charliebilello) January 21, 2022
-China cut rates for the 2nd month in a row, 10 bps decrease to 3.70%. Moving against the global trend of tighter monetary policy. pic.twitter.com/nd57cHcGbV
And rate cuts aren’t the only way China is attempting to put the steam back into its economy. Since December there have been a number of other levers pulled to support growth.
Reserve ratio requirements for banks have been cut, releasing billions worth of liquidity into the banking system.
While some of China’s biggest banks have been ordered to ease restrictions on home loans as the nation’s beleaguered property sector continues to avoid the catastrophic scenarios many were predicting in 2021.
There have also been signs the Government crack down on big tech companies could be moderated with officials recently shying away from the tough talk that was heard regularly through 2020 and 2021.
The power of low rates and stimulus has had a profound impact in the United States, with stock markets soaring to new all-time highs over the past year.
Recently though, markets – in particular growth stocks – have tumbled on fears of inflation and the Federal Reserve tightening it’s monetary policy stance through its main lever – lifting rates.
Higher real yields change the price investors are prepared to pay for growth stocks, because when real yields rise, the discount rates used to value future cash flows must also rise which means today’s value of future cash flows falls.
So what will be the impact on Chinese equities as China loosens and the U.S. tightens?
Chinese equities bull market?
Over the past two months, Asia Markets understands major global investment firms including UBS Group, BlackRock, and HSBC Holdings have moved to overweight positions on China.
A recent J.P. Morgan note seen by Asia Markets tipped the MSCI China Index to rise by around 40% in 2022.
“If we look at the underlying Chinese listed universe, revenue has been growing faster than average of the economy and the margins have also been expanding since 2020,” said Wendy Liu, JP Morgan’s Chief of China Equities.
“There is the fading of the so-called ‘old hero’ – property – which has been in the headlines but if we look at its weighting in the index, the MSCI China, it’s 4%.”
Liu named electric vehicles, IT, software, hardware and e-commerce as “new hero” Chinese sectors to watch.
Stephanie Leung, Head of Singapore Investment Firm StashAway is also expecting Chinese equities the outperform in 2022.
“This is actually, interestingly, a year where China will be loosening and also just kind of reversing what they’ve done last year and to stimulate growth. So given that valuations are extremely cheap for Chinese equities and where US equities are in terms of valuation and also the Fed’s pivot, it will be a very, very interesting year for China’s equities actually to outperform the U.S.”
Credit impulse bottomed out
Australian-based, Portfolio Manager, Sunny Bangia, notes China has been in the midst of its fourth “tightening phase” since 2008.
“The credit impulse which has correlated well historically to the domestic economy has led to a broad slow-down in the world’s second largest economy. With domestic economic conditions cooling, policy makers in China have had to think about providing support.”
And Bangia believes we’re now in the midst of a key turning point.
“China credit impulse has found a bottom after the sharpest decline in 15 years and has correlated well with a bottom in the domestic economy in the past.
“At the same time we have Chinese equities trading around 14x PE ratio having de-rated significantly over the course of 2021. As a result, there are great quality businesses on offer that have excellent prospects in various parts of the economy such as e-commerce 2.0, property portals or private banking and insurance.”
While a new Chinese equities bull market is being tipped by some experts, there are also many skeptics who believe monetary policy won’t be enough to boost the Chinese economy in 2022 and avert threats such as the Evergrande crisis.