Rise of the five-star red flag: Investing in China

Rise of the five-star red flag: Investing in China
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As the world’s major economies are set to tighten their monetary policy, China is the only one moving in the opposite direction to spur its economic growth. This represents an excellent opportunity for investors to start bargain hunting in the country with a population of over 1.4 billion.

Principal Asset Management (Principal) believes that downward pressures exerted on the China market and economy last year- mainly due to its regulatory crackdown on the technology sector and default on debt- will change in 2022. The tide is about time to turn around.

With the support of its government and central bank, the firm expects the Chinese market to continue to attract capital inflows from overseas this year. 

“In the Central Economic Work Conference that took place in December last year, Chinese leaders have emphasised that the country will focus on stability in 2022. As a result, we expect more monetary policy easing going forward, although the pace may be gradual and more targeted. This should help to keep its economy growing in a reasonable range this year.”

The People’s Bank of China (PBoC) commitment to support the Chinese economy is evidenced through its recent pledge to use more monetary policy tools to drive credit expansion. The central bank recently cut its reserve requirement ratio, the minimum amount of cash that banks must keep with them, and loan prime rate, which is the rate that banks charge on their preferred customers, are good examples.  

As a result, fixed asset investment received a boost in the near term, with sectors including infrastructure, transportation and telecommunications being the primary beneficiaries. 

“We believe that the country’s credit cycle (which means the expansion and contraction of access to credit over time) is now on the cusp for a new upturn,” says Principal. 

Principal also believes that China’s regulatory crackdown that weighed heavily on its market and economy last year is likely to be less intense moving forward. De-rating exercises, where investors attach a lower price-earnings ratio to stocks due to less favourable earnings potential, might have also come to an end. 

“Investors sentiment towards the China market should gradually recover starting this year,” says Principal. 

Another cue investors can take from China’s Central Economic Work Conference last year is that the green economy and businesses will continue to rise

The conference had a significant focus on carbon neutrality and renewable energy. A key point raised during the event is that coal is still the foundation of China’s energy system, creating massive air pollution. However, the country is shifting towards clean energy and is actively promoting it. 

As a result, China’s green bond market is recovering from the aftermath of the Covid-19 pandemic and continues to grow. “Overall, China’s commitment to carbon neutrality by 2060 will mean structural changes in the Chinese economy,” says Principal. 

The Chinese market is also attractive from a valuation standpoint as investors are pricing in a lot of negative news and developments which stem from last year. Such a selling pressure could fade this year with the gradual reopening of the Chinese and global economies and normalising of manufacturing activities. 

“Moving forward, we like sectors that are supported by earnings growth and low policy risk, including consumer durables and green technology. Chinese government’s focus on uplifting the overall income of its people and growing the size of its middle class is positive for the country’s long term consumption, while green initiatives are a focus for China over the next few decades. 

“Broadly speaking, we prefer the cyclical and value sectors that would benefit from the reflation and reopening of global economies,” says Principal.

As investing in China has been one of the strong suits of Principal, investors who want to ride on the potential uptrend of the Chinese market can put their money with several funds under the firm. 
These funds are the Principal Greater China Equity Fund, Principal Asia Titans Fund, Principal China Direct Opportunities Fund, Principal China-India-Indonesia Opportunities Fund and Principal Greater Bay Fund.

As of Dec 31, the Principal China Equity Fund, one of the firm’s flagship funds, generated cumulative returns of 60.77% and 87.23% in the past three and five years. It also yielded investors a return of 193.86% since its inception in June, 2007.

The Principal Asia Titan Fund provided investors returns of 60.65% and 72.37% in the past three and five years, respectively, during the corresponding period. The return was 148.59% since its inception in March 2006.

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