2020 vision

Bull signals? In China, red means the market is up

January 1 is only just behind us, but China’s Lunar New Year festivities are less than three weeks away. Even still 2020 is well underway, with the signing of the much-vaunted ‘Phase One’ trade deal between Beijing and Washington expected in the next few days, reportedly at the urging of President Donald Trump.

The Chinese haven’t been portraying the agreement with much enthusiasm and most of the commentary has described it more as a de-escalation of hostilities rather than a broader breakthrough. The Chinese have committed to more than doubling their purchases of US goods and services to $386 billion by 2021. In return the Americans have dropped tariffs on an estimated $156 billion of Chinese exports that were scheduled to come into effect last month and halved duties on another $120 billion implemented last September. Tariffs of 25% on another $228 billion of goods remain in place, however.

The partial truce probably isn’t enough to spark China’s economy into a meaningful recovery in exports or investment, HSBC’s economics team reckons, although it should give struggling exporters more breathing room as the year begins. Other analysts are talking more about how the deal prepares the ground for the next phase of the confrontation between the world’s two superpowers. One prediction is a switch from tariffs to other tactics such as export and import controls. Washington has been shaping its approach with new legislation to control exports of advanced technologies, for instance, as well as tougher oversight of Chinese investment in the US, plus a rethink on how federal retirement funds are invested in China (see WiC470).

The canary in the coalmine here is Huawei, which has been running into the stiffest political opposition in Washington. Similar sentiment has spread to other markets, where the Americans have been pressuring their allies not to sign contracts for 5G networks with the Shenzhen-based giant. Australia, Japan and New Zealand have agreed although countries from the European Union have mostly resisted American blandishments. Crucial choices will need to be made in countries like Germany, Italy and the UK, which have dragged their feet on the decision.

There’s been much less hesitation about Huawei in developing markets, where sales have been strong. In fact, one of the remarkable features of the campaign against Huawei has been its limited effect: its sales were up 18% last year, despite the restrictions, with 240 million smartphones shipped versus 206 million in 2018. In a New Year message chairman Eric Xu highlighted revenues of $122 billion – much more than the $100 billion founder Ren Zhengfei had predicted seven months earlier when Washington blacklisted the firm.

This year looks like being the acid test for whether Washington’s isolation strategy will pay more dividends. As stockpiles of key parts run down in its supply chain, Huawei could start to shudder and American pressure on its partners may eventually close off lucrative markets. But the story will be different if it can break the stranglehold by making more key components itself or sourcing them from alternative suppliers (a process that has been ongoing for the past six months). Convincing a wider range of customers to contract for its services would kibosh much of Washington’s approach, creating a template for other Chinese firms to follow. All the same, Huawei’s Xu anticipates a “difficult year”.

More broadly analysts will be monitoring indicators like employment levels and wage growth in the wider Chinese economy, after both showed early signs of flagging last year. Prolonged weakness in either could be significant for the domestic consumption story, undermining the economy’s key growth engine. Pork prices will also stay in the headlines (they more than doubled year-on-year in November because of swine flu, pushing core inflation to its highest levels in almost eight years). Expect the release of more frozen pork from state reserves ahead of the Lunar New Year holidays this month, but more meat will also need to be shipped in from overseas after the epidemic slashed the national herd by more than 40%.

Bigger picture, this year’s GDP figures are expected to come in strong enough for the government to deliver on its longstanding promise of doubling China’s economy in the decade since 2010. Meanwhile policy pronouncements will come to the fore again with the release of the latest Five-Year Plan in the autumn. Greater self-reliance in the design and manufacturing of tech components will be a key feature. In part that’s a spillover from the trade and tech row with Washington, with the agenda already apparent in the launch of the STAR market in Shanghai last year (see WiC461). The ChiNext board in Shenzhen is next for an overhaul in another signal that policymakers want to make it easier for firms in the domestic tech sector to raise capital locally.

Debt levels will also stay in the spotlight, however, especially borrowing by companies, which has soared in the decade since the global financial crisis. That’s one of the reasons why the government has largely stayed the course on a deleveraging effort that began with a clean-up of shadow banking two years ago, despite a growing number of company failures and bond defaults (see WiC477).

A nasty side effect is that firms in the private sector are often the hardest hit, despite contributing the largest share of the nation’s taxes, exports, jobs and growth. That means there will be more expressions of support for smaller and medium-sized enterprises from the State Council in the months ahead. Indeed, it has just announced that sectors like energy and finance will be opened up to non-state players, as well as promising more chances for privately-held businesses to sell bonds and shares.

There will be more assistance for smaller companies in getting loans as well, with another round of cuts to the banks’ reserve ratio requirements kicking in this week and talk of further reductions in lending rates later this year.

Whether this financial support actually reaches cash-starved private sector supplicants is going to be a key concern. Traditionally the banks prefer to do business with their state-owned peers so another signal that the situation is changing would be higher failure rates among the worst performing of the state enterprises, implying that Beijing is directing capital towards more productive borrowers. Analysts will also watch the monthly purchasing manager indices for signs that business confidence is getting better among smaller enterprises.

What about stocks? Despite last year’s uncertainties China’s A-shares were the best performing of the major indices (see WiC474). The Shanghai Composite gained more than fifth and the blue-chip CSI300 Index did even better. Much of that was a rebound from a miserable year previously (and most of the rally came in the first five months of 2019), although HSBC is forecasting another good year, with as much as 20% upside for investors in the A-share market.

Some of the impetus has been coming from foreign investors, who have been arriving in greater numbers since the country’s reweighting in the MSCI emerging market indices. According to HSBC foreign asset managers (as a category) now constitute the largest institutional investor base in the A-share market, ahead of domestic insurers and pension funds.

China’s retail investors are a momentum-driven bunch and they track the government mood closely, hoping for a quick profit from mentions of new policy priorities. Some of that might come from the Five-Year Plan, especially in sectors like semiconductors and other high-tech components. The rollout of 5G across towns and cities could trigger excitement as well.

Hopes of broader stimulus for the economy look forlorn, however, with the central bank reiterating a continuity of approach at its annual work conference last week. Xinhua repeated the main messages, highlighting the focus on a “prudent, moderately flexible” monetary policy and “forestalling [and] defusing major financial risks”. Yet China’s stock markets opened the year in cheerful mood, fuelled by optimism that trade ties with the US are set to improve. The cut in bank reserve requirements buoyed investors further, as well as comments from the China Banking and Insurance Regulatory Commission, the financial watchdog, that it will be pushing for more of the nation’s household savings to be channelled into a long-term capital market fund that’s directed at stocks. There was no mention of how this would be achieved, the South China Morning Post noted, but analysts were cheered by the thought of even a minor share of the nation’s Rmb70 trillion ($10 trillion) savings pool heading into A-shares.

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