AXA IM Talk on Asia & China Market: Investment outlook for the rest of 2021 in China and Asia

This month our Senior Emerging Asia Economist Aidan Yao is joined by two colleagues, Simon Weston, Head of Framlington Equities Asia, and Celine Fong Investment specialist, Asian Fixed Income. The three of them discussed the investment outlook for China and Asia markets for the rest of 2021.  

Please find the full script below:

Aidan: Hello, welcome to our monthly video, my name is Aidan Yao, I’m the senior economist at the AXA Investment Managers.

Today, I’m pleased to be joined by my colleagues, Simon Weston, Head of Framlington Equities Asia, and Celine Fong, investment specialist for Asian Fixed Income. Among the three of us we will discuss our macro and market views for the remainer of 2021.

Aidan: First, on the macro economic front, we think Q2 may have marked the peak of sequential GDP growth for China this year. Economic momentum is expected to ease as export growth weakens and negative credit impulse weighs on domestic demand in the second half. Recent natural disasters and COVID resurgence also present some downside risks to our forecast.

Fortunately, Beijing has started to take notice of the fading growth momentum and is taking actions to fend off downside risks. The recent RRR cut and increased local government bond issuance suggest that the authorities are moving from prudent policy with a tightening bias to prudent policy with an easing bias. If the growth momentum falters more than expected, further policy easing could be introduced to safeguard the economy.

But despite a modest shift in macro policies towards more accommodation, China’s regulatory environment has tightened significantly in recent months.

Aidan: Simon, the Chinese equity market has declined a lot in recent months partly because of the regulatory moves towards the education and tech sectors. In your view, do you think this correction is simply a reflection of confidence shock – because of policy uncertainty– or do you think the regulatory environment has fundamentally changed the business models and earnings prospects of these sectors? And if your view is more sanguine, do you think it’s a good time to bottom-fish?

Simon: Regulatory changes always induce uncertainty in markets. And particularly in this case, at the moment we still don’t know what would be the final outcome of these changes. However, it is clear that in part what has driven these initiatives is a desire by the authorities to catch up with the regulatory framework , especially for some relatively young industries.  Clearly in some areas, such as fintech, part of the motivation has been to reduce systemic and financial risk, and thus is positive from a macro consideration.

Nevertheless, it does suggest that certain business models may no longer be viable, as in the case of after-school tutoring business.  However, other sectors are unlikely to see such a significant impact. But as with any regulatory change, it is usually better to wait to see the final outcome before making any definitive judgement.

Aidan: Thank you Simon. So outside China, where else do you see opportunities in Asia equities market for the rest of 2021?

Simon: We continue to be very favorable towards technology sector, and especially the semiconductor industry.  The sector was given a significant boost in 2020 as the working from home phenomenon saw a step change in demand, especially for technology hardware.  However, although this jump in demand is unlikely to be repeated, the pandemic has really accelerated many of the changes that were already underway, such as increased penetration of e-commerce, the emergence of the IOT (Internet of Things), and the generally enhanced ubiquity of technology in all aspects of our lives.  These trends are likely to persist even if and when we return to more traditional ways of working, so we would expect the sector to continue to do well.

Aidan: So Celine, the regulatory storm has also swept through the credit market, with rising defaults among property developers. Do you expect the default rate will continue to rise further from here? And how should investors position for it?

Celine: China High Yield’s total return was down 7.7% in July, this is the second largest single month drawdown since 2015, second only to March 2020 when the index dropped around 15% in one month at the beginning of the pandemic. In our view, the risk of further defaults of weaker names is already largely priced in. In the property sector specifically, we think the systematic risk is low given home sales is still robust for most developers and the purpose of regulator’s policies is to stabilize the housing market. A rapidly rising default rate of large property companies would be equally disruptive as rapidly rising home prices, and it should be something regulators want to avoid. We think for now investors should position in shorter duration bonds issued by credits with strong refinancing capabilities and good cash collection ability. This could allow investors to capture the currently attractive valuation while avoid default risk.

Aidan: Thank you Celine. So on the one hand we have rising credit risks and policy uncertainties, but on the other hand, valuation of Asian credits, particularly in the high yield space, has become very attractive. How should we balance between those two, and thinking about whether this is a good time to invest in Asian credit market?

Celine: We do think it is a very good time to invest in Asia credit market, given the valuation is very attractive with increased idiosyncratic risk. Valuation of Asia credit is at 5-year lows when compared to U.S. credit and other global Emerging Market peers.1

Obviously, credit selection is key. For the rest of 2021, we think the theme should be credit divergence. We believe the macro environment will continue to be supportive and liquidity will be ample, with that, the cheap valuation of Asia credit should attract global investors.

Investors might want to focus on higher quality benchmark names and look for credits with solid fundamentals but suffered a drop in valuation due to single-name volatility in the same sector. In terms of opportunities, for China we are constructive on short-dated China property, central SOEs, systemically important banks; outside of China, we are bullish about renewable energy sector in India.

Aidan: Thank you very much Simon and Celine for joining me today. And to our audience, thank you very much for watching this special episode of monthly video. Take care.

[1] Source: JPMorgan, as of July end, 2021.