Hong Kong-China Equities: A Stronger Outlook for Fundamentals

In the wake of the reopening of China’s economy, consumer sentiment and income expectations should continue to rebound. Strong growth in domestic and international traffic in certain cases is already returning to pre-COVID levels. The positive impact from these factors on company fundamentals is likely be evident in second-quarter earnings, especially when compared with year-earlier earnings that were affected by Shanghai’s COVID outbreak. Corporate profit margins also may benefit from the rising spread between moderating inflation and deflating input costs.

A Focus on Economic Stability

China’s 2023 Two Sessions, the annual plenary meetings of the national legislature and the national political advisory body which concluded in March, saw a new administration take the helm of China’s economy. Premier Li Qiang stressed the importance of economic stability and policy support to stimulate domestic demand, investment, reform, innovation, and risk prevention. To signal policy continuity going forward, the new administration retained the governor of the People’s Bank of China, and the ministers of finance and commerce. The Chinese government also is committed to shifting its focus toward high-quality development and to improve science and technology as routes to achieving self-sufficiency. These efforts are likely to support advances in the health care and information technology sectors where research and development are key to building competitiveness.

A More Positive Outlook

Externally, while demand from developed markets remains weak, market expectations of continued interest rate hikes have begun to ease as global inflation continues to moderate and central banks deal with liquidity risk in the banking sector. The market currently anticipates potential rate cuts in a few quarters, which could be supportive for valuations in emerging markets equities.

The market consolidation seen in the first quarter has paved way for strong and high-quality earnings in 2023. Investors and companies alike are shifting their focus toward fundamentals. Valuations remain at attractive levels given this year’s strong outlook. China’s delay in reopening its borders in 2022 could mean deferring growth to 2023, representing a favorable opportunity for market entry. We have taken advantage of the recent market volatility to buy high quality companies that have returned to reasonable if not attractive valuations.

Especially in light of the low base since 2021, we remain constructive on Chinese equities for 2023 due to positive bottom-up fundamentals and strongly supportive policies. As the economy gradually normalizes, structural trends such as sustainable growth, self-sufficiency in the supply chain, scientific and technological innovations, and environmental awareness, should continue to unfold, in our view. In the medium to longer term, these trends should bolster the outlook for sectors and themes including new infrastructure, domestic consumption, health care, technology localization and sustainability.

23-2865937