5 months ago • 8:09 mins
A decades-old debate in China over “common prosperity” – that is, whether the government should prioritize economic growth or economic equality – has been swinging in favor of the latter recently, sending stocks in some industries tumbling. But as some bullish investors argue that these kinds of attacks are nothing new, might it be time to snap up some bargains?
China’s government and regulators have peppered some of the nation’s most successful companies – from retailer Alibaba to ride-hailing firm Didi to private tuition providers – with attacks over the past year. It’s all part of a renewed push from President Xi Jinping for so-called “common prosperity”, where ordinary folks can share more equally in China’s growth.
If you’re confused why China would want to hobble national success stories with fines and restrictions on investment, it’s all part and parcel of a long-standing debate over exactly how “common” China’s prosperity should be. In fact, the term “common prosperity” was first used in the 1950s by Mao Zedong, before the more market-friendly Deng Xiaoping shifted the rhetorical focus in the ‘80s to allow “some people to get rich first”.
While we can only guess at Xi’s motivations, he may deliberately be limiting the power of private companies so they can’t threaten the Communist Party’s rule, or he may just be pushing popular policies in an attempt to win a third term as president. After all, China has a wider income gap between the richest and poorest than the US or Europe, despite its nominally Communist government.
Either way, now that the distractions of a trade war with the US and the coronavirus pandemic are waning, Xi has been talking about the topic a lot more often:
Many commentators think real estate and healthcare could be next in the firing line now that private tuition has taken a hit. The cost of education, housing, and healthcare, after all, are often derided as the “three mountains” Chinese people have to climb.
Then again, almost no one saw the previous crackdowns coming, so it’s anyone’s guess which sectors – if any – they might target next. Even ministerial speeches and newspaper editorials have given conflicting signals on the direction of future policy, suggesting no one’s sure how seriously to take this push for “common prosperity”. The decisions rest with a very small number of people around the president, and the man himself.
Still, there have been some positive signs for investors: Vice Premier Liu He – the president’s top economic adviser – argued in a speech this week that “the principles and policies for supporting the development of the private economy have not changed”. The state-run Xinhua news agency, meanwhile, ran an editorial suggesting that some overseas investors had “misinterpreted” the common prosperity drive.
The past few months are a timely reminder for foreign investors that they’ll never be a priority for China’s government. And for the most pessimistic among them, China’s rhetoric this year heralds a reversal of those market reforms championed by Deng four decades ago.
But bulls argue that this sort of crackdown happens periodically in China. This instability is one of the reasons China is categorized as an emerging market and not a developed one, and that’s reflected in the lower valuations of Chinese stocks compared to those in the West. As billionaire hedge fund manager Ray Dalio put it in an article a few weeks ago: “Don’t misinterpret these wiggles as changes in trends and don’t expect this Chinese state-run capitalism to be exactly like Western capitalism.”
They also point out that Chinese authorities can’t allow the stock market to fall too much before they hurt the very middle classes their policies are supposed to protect. Domestic retail participation in Chinese markets is strong, after all: some 180 million Chinese people own about 22% of the stock market.
For those bulls, this pullback represents an opportunity to invest in the world’s fastest-growing major economy at a discount. Check out how much tech stocks in the CSI China Internet Index have fallen in relation to America’s Nasdaq 100 Index:
And some investors are already piling in. The KraneShares CSI China Internet exchange traded fund (ticker: KWEB), which tracks that aforementioned index of Chinese tech stocks, is on course for a third- straight week of inflows.
But for my money, the argument is finely balanced. While Chinese stocks overall aren’t looking as overvalued as they did at the end of 2020, they’re still very far from distressed levels where true bargains may be found.
The CSI 300 Index’s price-to-earnings (P/E) ratio has dropped to 15.6x from 18.3x at the end of 2020, sure. But that’s still above the average of 12.5x we’ve seen over the past decade. And the index’s price-to-book ratio – a measure of valuation compared with its companies’ assets rather than their profits – currently stands at 2.1x, more than 20% above its 10-year average.
And compared to stocks globally, China’s markets hardly stand out as supremely cheap. After its recent losses, the CSI 300’s P/E valuation has dropped to about 80% of the MSCI All-Country World’s, bang in line with its long-term average.
The drumbeat of announcements over the past few months have served as a reminder that China can be a risky place to invest. So while valuations in Chinese markets are definitely more attractive than they have been, you may feel safer waiting for an even more attractive entry point to present itself.
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