The potential impact of the US presidential election on Greater China equities
On Tuesday, November 3, 2020, U.S. voters decided who will hold the balance of power in Washington. President-elect Joe Biden won the election (November 7), and at the time of this writing (November 9), President Trump hasn't formally conceded defeat.¹ We examine the potential investment implications for Greater China equities after the election.
We believe that the relationship between China and the United States could remain under pressure following the U.S. presidential election. While geopolitical tension is likely to endure, we think that the impact on Chinese equities should feasibly be well contained and diminish gradually. Indeed, over the past four years, the U.S. administration has strategically used various tools such as trade tariffs, sanctions, and its entity list against China. Given this uncertain backdrop, we believe the Chinese government and corporates have become better prepared to continue to progress the country’s economic development.
We believe China’s preemptive response is already laid out in its five-year plan: dual circulation led by internal circulation.
At the 5th plenary session of the Chinese Communist Party, which took place at the end of October, the Chinese government unveiled its 14th five-year plan (2021 to 2025) that will serve as the guiding principles for the country’s future economic development.²
Against a more challenging external environment, and at a key domestic-development stage, President Xi’s dual circulation strategy has already placed a strong emphasis on internal circulation as the primary growth engine for China's economy, while external circulation is expected to serve as a supplementary driver. The goal is to extract China’s growth potential through faster technological progress, consumption boosts, new urbanization, and internal supply chain enhancement while allowing the domestic and foreign markets to lift one another.
The implications of China’s fundamental economic development—homegrown innovation and self sufficiency
Strengthening innovation capacity and achieving breakthroughs in core technologies are key for the dual circulation strategy. We expect to see more domestic national champions strive for homegrown innovation in areas such as biotechnology and electric vehicles (EVs). Furthermore, we anticipate the rollout of additional fiscal support and policies, such as tax incentives or low-cost funding, to facilitate import substitution and self sufficiency. This will likely boost supply chain upgrades and industrial automation across the regions.
Another focus of China’s internal circulation is domestic consumption: There's plenty of unmet demand for lifestyle-related services, and these are likely to enjoy higher growth thanks to their repeatable nature. Also, e-commerce penetration should be supported by product category expansion (e.g., medicines, and grocery), and wider age-group adoption.
Tech and supply chain matters—wait and see, but new opportunities exist
In terms of the U.S.-China relationship, we'll wait and see what path the new administration pursues. Nevertheless, the race to achieve self sufficiency in China’s core technology sectors, such as semiconductors, provides opportunities along the value chain. For example, among the upstream semiconductor supply chain, equipment is one of the segments with the lowest level of localization—the highly targeted and supportive central government policies and tax incentives are aimed at fixing this issue from the outset.
EVs represent another opportunity set for Chinese enterprises looking to develop brands that cater to local tastes and the physical environment. Endorsed by leading global EV brands, Chinese auto-component makers are breaking into the global EV supply chain. The success story of Chinese enterprises gaining market share from the global tech supply chain could well be replicated in the EV segment.
Capital-market liberalization and a fostering of Chinese equities—an invitation to global investors to participate
More importantly, we expect China’s growth to continue to show a positive differential from the rest of the world—even more so in the postpandemic world. It's likely to attract more foreign capital to renminbi-denominated assets, or high-growth and well-managed Chinese enterprises.
Meanwhile, the Chinese government is giving the green light to foreign institutions that are willing to participate in China’s growth opportunities, and connecting with global investors by liberalizing its capital markets.
For example, the Shanghai Stock Exchange's STAR board and the Shenzhen Stock Exchange's ChiNext have adopted registration-based listing regimes3 (as opposed to the previously lengthy approval process) and market-determined pricing.
Foreign financial institutions such as brokerages and asset managers can now take a majority stake in their Chinese joint ventures.4 In addition, since April 2020, they've been able to set up wholly owned units.
Many foreign asset managers,5 including those from the United States and Europe, have responded positively by increasing investment in China, despite rising tensions in U.S.-China relations.
Identify stock drivers with a bottom-up approach
For fundamental reasons, we remain cautious on export-oriented sectors. We believe that global demand recovery still depends on whether there'll be a third wave of the pandemic, and postpandemic requirements and shifts in behavior may imply changes in terms of product specifications and design. Domestic manufacturers will likely need time to adjust and restructure their production processes.
Despite geopolitical uncertainties and short-term volatility, we believe it's important to focus on long-term fundamentals. Investors should continue to look for investment themes (i.e., consumption upgrades, innovation, and policy beneficiaries) that ride on secular megatrends and are unlikely to be reversed no matter who takes the U.S. president’s office. If there are any indiscriminate sell-offs, these could be viewed as buying opportunities.
1 “Joe Biden Declares Victory, Calls on Americans to Mend Divisions,” Bloomberg, November 8, 2020. 2 Communique of 5th plenary session of 19th CPC Central Committee, October 29, 2020. 3 China Daily, August 25, 2020. The registration-based IPO system was first launched in China through the Shanghai Stock Exchange's STAR board in July 2019 followed by the Shenzhen Stock Exchange's ChiNext in August 2020. 4 “Relevant Measures Concerning Further Expansion of External Opening of the Financial Sector,” State Council’s Financial Stability and Development Committee, July 20, 2019. 5 ”China lifts foreign ownership limits on securities, fund management firms,” Xinhuanet, April 1, 2020.
Important disclosures
A widespread health crisis such as a global pandemic could cause substantial market volatility, exchange trading suspensions and closures, and affect portfolio performance. For example, the novel coronavirus disease (COVID-19) has resulted in significant disruptions to global business activity. The impact of a health crisis and other epidemics and pandemics that may arise in the future, could affect the global economy in ways that cannot necessarily be foreseen at the present time. A health crisis may exacerbate other pre-existing political, social and economic risks. Any such impact could adversely affect the portfolio’s performance, resulting in losses to your investment.
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