What’s behind the weakness in Chinese equities?
On the latest edition of Market Week in Review, Investment Strategist Alex Cousley and Head of Portfolio & Business Consulting Sophie Antal Gilbert discussed two factors that may be contributing to the recent downturn in China's stock market. They also chatted about the divergence in monetary policies among key global central banks, and provided an update on the performance of value stocks relative to growth stocks.
Two likely factors behind China's stock-market slump
The Chinese equity market, which began the new year on solid footing, has cooled off considerably since mid-February, Cousley said, noting that the benchmark Shanghai Composite Index is down a little over 2% in the past three months. He attributed the recent weakness in Chinese equities to two primary factors: a gradual tightening in monetary policy and the country's recent crackdown on big tech companies.
"China was the first country struck by the coronavirus pandemic, and also the first to recover - which has allowed it to become one of the first to start tightening monetary policy at the margin," Cousley stated. However, he emphasized that the tightening has been gradual, and that the country is unlikely to move to a restrictive stance on monetary policy any time soon.
The Chinese government's increasing clampdown on big tech companies, including Alibaba, Tencent and Meituan, is also likely responsible for the equity-market slump, Cousley said. "Chinese regulators, in particular, have been looking into the lending practices of several of these leading Internet companies," he stated, noting that the 20 most commonly used apps in China all provide some form of financing. The intensified government scrutiny, which began earlier this year, is clearly weighing on the market, Cousley remarked.
Despite these regulatory developments, the overall economic outlook for China still looks quite positive, he noted. "The most recent economic data, while not as exciting or as strong as what we're seeing in other parts of the world, shows that the Chinese economy is still ticking along quite nicely," Cousley said, adding that the International Monetary Fund is predicting a growth rate of 8% for China this year.
The emergence of divergence: Global central banks split on easy-money policies
Shifting to the topic of global central banks, Cousley said that over the past few months, there's been a divergence in monetary policy among key banks, with some signaling a shift away from the ultra-accommodative policies implemented last spring. Norway's central bank has been among the most hawkish, he said, with the Bank of Norges reaffirming on 6 May that it plans to raise interest rates during the second half of the year. The Bank of Canada, meanwhile, announced a tapering to its asset-purchasing program last month, while the Bank of England (BoE) recently stated that it will start scaling back its weekly bond purchases.
"The BoE's announcement is not a hawkish move per se, as the bank made it clear it's not lessening the total amount of overall government debt it will buy, but instead purchasing this debt over a longer period of time," Cousley explained.
On the other side of the ledger, the U.S. Federal Reserve (the Fed) has been very emphatic that its easy-money policies will remain in place for the time being, with Chair Jerome Powell stressing that both full employment and inflation averaging 2% over a longer period of time must be achieved before rate hikes are considered. Similarly, the Reserve Bank of Australia (RBA) recently indicated it doesn't plan on tightening monetary policy any time soon, leaving its key borrowing rate unchanged during a 4 May meeting, Cousley noted.
"One of the RBA's primary policies is a target yield of 10 basis points on its three-year government bond, and I think this will stay in place for some time - as will the bank's quantitative-easing (QE) program," he said. Cousley explained that while Australia's economy has weathered the pandemic well, the rebound in the Australian dollar (AUD) is becoming a hindrance on the country's outlook for both exports and inflation. "Because of this, the RBA is very conscious of the fact that removing QE before the Fed, for example, would lead to further pressure on the AUS/USD exchange rate, which is unnecessary," he stated.
Value stocks surge ahead of growth stocks to begin May
Cousley concluded the episode with a look at the recent performance of value stocks relative to growth stocks. Value stocks outpaced growth stocks significantly during the first few months of the year, he said, before slipping a bit during April, when growth took the lead. The week of 3 May, however, saw value stocks pop again in comparison to growth stocks - a trend Cousley believes is likely to continue.
"The economic data in the U.S. and on a global basis continues to look strong, with actual results continuing to beat expected results. In this environment, I expect value stocks to continue to outperform, as the premium for growth stocks becomes a little less valuable," he remarked. Cousley added that when examining the first-quarter earnings of S&P 500® companies, those classified as value companies have significantly outperformed in relation to those classified as growth companies.