Despite being the country where the outbreak of COVID-19 originated, China was the first economy to emerge from the pandemic. Some analysts now predict China's economy will experience a V-shaped rebound, going from -2% growth this year to 8% in 2021.
Given the underlying weakness in the Chinese economy – including a soft export market, low domestic demand and lingering trade wars – it's easy to see why investors would be wary of this market. However, when compared with the bleak economic outlook globally – which will hamper recovery in corporate earnings – some exposure to China looks justified, in my opinion.
It is the only global economy that's expected to be in positive territory this year.
With full year growth expected to come in at 1.8%, the country appears to have has miraculously dodged a technical recession, and some economists, like BlackRock, expect the world's second largest economy to experience "near-trend growth" as soon as late 2020.
In addition to the return of strong export markets, what China's economic stimulus is now focused on is middle-class shoppers spending more as job stability returns to post-COVID-19 levels. China's reliance on consumer spending cannot be understated, with consumption contributing to two-thirds of the country's economic growth, according to recent figures.
Greater risk in not investing in China
Despite trade wars, geopolitical tensions and post-COVID-19 economic uncertainty, there are still ways to take measured bets on China. If you're prepared to do your homework, it's possible to get good exposure to China's recovery story. Despite the pandemic, some fund managers have already done this.
For example, back in March at the height of the pandemic, Magellan fund manager, Hamish Douglass increased his allocation to China from 14% a year ago to 25%, via exposure to just a handful stocks. While the fund manager used to be invested only in Apple, Starbucks and Yum Brands, it has now added LVMH, Estee Lauder, Alibaba and Tencent to its holdings in China.
Assuming the focus remains on quality companies, Douglass believes it's more risky not to invest in China over the next 20 years. He cited Starbucks as a great way to access the Chinese middle-class, where a new store was opening in China on average every 15 hours.
Then there's Zenith Investment Partners, which pre-COVID had already increased its average exposure to China from 18% to 22%. Zenith's exposure to what are referred to as A-shares – those listed on the Shanghai and Shenzhen stock exchanges – also doubled from 2% to 4%.
Despite being relatively out of favour, and underweight within (most) global portfolios, in my view Chinese equities look to have been oversold. This creates opportunities for those willing to take a long-term view.
Signs of a rebound are already evident, with recovery picking up steam in June on the back of the Chinese government's 'new style' infrastructure spending (like 5G) – plus other fiscal stimulus measures – designed to drive both domestic consumption and help reopen overseas markets.
Exposure to China through ASX ETFs
If you like the idea of having exposure to China, but don't have the stomach to be a stock-picker within this market, another way to play China's recovery story is through ASX-listed China exchange traded funds (ETFs).
Despite rallying 34% in the last year, my favoured ASX-listed China ETF is VanEck Vectors China New Economy (ASX: CNEW). The shares on this index seem to be in the sweet-spot of China's economic stimulus measures.
In an effort to help stabilise its domestic market, the People's Bank of China is committed to extending more credit to small businesses that had their liquidity stretched during the lockdown. Unlike the global financial crisis (GFC), this time around economic stimulus measures are primarily focused on technologies of the future, including everything from electric cars, industrial robotics, through to artificial intelligence (AI). As investor with exposure to China, this is something to be aware of.
CNEW seeks to provide investors with access to a portfolio of the most fundamentally sound companies, with the best growth prospects – in consumer discretionary, consumer staples, healthcare, and technology sectors – that are domiciled and listed in mainland China. The three biggest holdings within CNEW (which holds 120 shares) include Guangdong Biolight Meditech Co Ltd, Jiangsu Zitian Media Technology Co Ltd and G-bits Network Technology (Xiamen) Co Ltd A.
Other China-based ETFs listed on the ASX include VanEck Vectors China A-Share (ASX: CETF), which is up by 2.81% over the last 12 months, and Ishares China Large-Cap (ASX: IZZ), which is down 1.28% over the last 12 months.
ETFs aside, it's also important to note that any ongoing fiscal stimulus-driven upswing for China stocks also bodes well for fund managers whose exposure to China may have fallen along with the market last year. For example, ASX-listed Platinum Asset Management Ltd (ASX: PTM), which has around a 5th of its holdings in China, looks well positioned to benefit from China's new infrastructure stimulus measures. Since peaking at around $8.50 early February 2018, the Platinum share price is now trading at below half of that high, at $3.76 per share.
Then there are another 30 to 40 funds that could also benefit from their exposure to a Chinese recovery, including the Magellan Global Trust (ASX: MGG) and the Fidelity Asia Fund.
Exposure to China through ASX shares
While resource stocks aren't in the direct eye of China's current stimulus measures, some sub-sectors, like base metals (notably iron ore, which is currently selling for around US$100/tonne) are still a net beneficiary of the strong demand for steel. Fortescue Metals Group Limited (ASX: FMG) is the most dominant playmaker in this space in my opinion. Also adding to Fortescue's fortunes are the export downgrades by its biggest competitors Vale and Rio Tinto Limited (ASX: RIO).
China's plans to move from coal to gas-fired power, also presents enormous long-term opportunities for Australian providers. Despite a notable deterioration in trade relations, China became Australia's biggest market for LNG in April, accounting for 40% of total exports. Key beneficiaries include the Queensland-based Origin Energy Limited (ASX: ORG)'s Australia Pacific LNG Venture and the Woodside Petroleum Limited (ASX: WPL)-run North-West Shelf venture in WA.
Resource shares aside, with China's stimulus measures focused squarely on consumers, any improvement in confidence could also provide a kicker to ASX shares that export high-end consumer discretionary products such as meat, seafood, dairy, fruit, alcoholic beverages and pharmaceuticals. While a growing number of ASX shares export to China, those with the greatest China exposure include winemaker Treasury Wine Estates Ltd (ASX: TWE), milk and infant formula companies A2 Milk Company Ltd (ASX: A2M), and Synlait Milk Ltd (ASX: SM1) plus vitamins company Blackmores Limited (ASX: BKL).
Foolish takeaway
Given the tensions with China on myriad levels right now, it's important to pick shares with strong exposure to this market carefully. So do your homework – look for shares with 30% or more exposure to China, within markets that appear to be outside the turmoil of any ongoing trade tariff tension, and that will benefit from the 'translation effect' when foreign earnings are domiciled back into Australian dollars.
