3 Reasons To Consider Chinese Stocks

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Includes: CNYA, FXI, MCHI
by: Christopher Dhanraj
Summary

Trade frictions have eased.

More stimulus could come in 2019.

China is looking more attractive.

With the Year of the Pig being celebrated as Chinese New Year, Chris discusses the case for Chinese equities.

For those celebrating Chinese New Year, 2019 is the Year of the Pig, the 12th of the 12-year cycle of animals that name the years. According to Chinese myth, the pig is the last zodiac sign on the calendar because he overslept and arrived late to the party in which the order of the zodiac was determined.

Although I'm not Chinese, I'm still intrigued by how traditions that are thousands of years old can reverberate with contemporary events. After all, many investors who had missed the China growth boom of the last several years may have watched events over the last year and thought they had arrived late to the party.

Chinese equities plunged 18.8% in 20181, recording one of the worst performances in years. (And yes, 2018 was the Year of the Dog.) Rising trade frictions, the impact of tariffs on Chinese growth, and anxiety about a global growth slowdown all were culprits in the dismal performance.

However, China is up more than 8% this year (as of 1/28/19), easily outperforming the S&P 500 Index, which is up 5.6%. We see three reasons for the turnaround and for optimism for Chinese stocks.

1. Trade frictions have eased.

The U.S. has imposed 10-25% tariffs on a total of $250 billion of imports from China and implemented new rules to restrict China's overseas investments in sensitive U.S. industries such as semiconductors and aircrafts, but last December, the U.S. and China agreed to put further tariff hikes on hold for 90 days while resuming negotiations. Although tensions are not likely to go away over the long term, we see room for trade frictions to subside in the short run. Both sides have incentives not to escalate the conflict and December's market volatility in the U.S. stock market has led to wider recognition that trade tensions could hurt domestic business confidence and employment.

2. More stimulus could come in 2019.

Chinese policymakers have rolled out a number of monetary, regulatory, and easing measures to help support growth and mitigate the negative sentiment that has resulted from the trade tensions and growth slowdown. Recently, China announced 1.3 trillion yuan ($193 billion) worth of new measures including tax cuts for small businesses and reduced tariffs. Other policy implementations such as greater financial market openness, private sector support, and infrastructure spending could further support economic growth and boost Chinese equities.

3. China is looking more attractive.

Chinese equities have cheapened significantly to a forward PE ratio of 10.6 from the 2018 high of 14.8.2 However, as the economy is driven more and more by domestic consumption, the corporate earnings outlook still looks quite stable. Analysts currently expect Chinese earnings to grow 13.6% in 2019, and any improvement in sentiment will likely lift equity multiples off their depressed levels.3

Bottom Line

To be sure, there are many reasons to be cautious with respect to China. It is easy to imagine trade tensions reigniting or the economic data disappointing. But the outlook for China is still promising and the performance this year reflects that. After all, it is important to remember the symbolism of the Lunar New Year: With their chubby faces and big ears, pigs are often viewed as a symbol of wealth in Chinese culture.

Related iShares funds

iShares China Large-Cap ETF (NYSEARCA:FXI)

iShares MSCI China ETF (NYSEARCA:MCHI)

iShares MSCI China A ETF (BATS:CNYA)

[1] Source: Bloomberg, based on the MSCI China Index

[2] Source: Bloomberg, as of 1/15/2018, based on the MSCI China Index.

[3] Source: Thomson Reuters, as of 1/15/2018, based on analyst expectations of earnings growth of the companies represented in the MSCI China Index.

This post originally appeared on BlackRock Blog.

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.