Where are the best investment opportunities in China?

Chinese shares have had a good run recently with gains spurred by the country’s reopening after the relaxation of Covid measures. Government support for the property sector has also aided equity market returns, as has a stabilisation of the regulatory environment for internet stocks. But even after the recent gains, we see several themes that could potentially drive longer-term gains for Chinese equities.

Reopening theme is still playing out

The China re-opening theme has not fully played out. After all, the re-opening has been swift, and it takes time for corporates and consumers to adjust to such a significant change.

We expect that the fast-paced relaxation of Covid-related measures in China will provide substantial support to the recovery in consumer spending, which in turn will support domestic earnings in many sectors.

Among those we see as the main beneficiaries is the food and beverage sector. Increases in dining out as people start to socialise more will drive higher demand for food and drink products.

Advertising will be another winner, as the increased opportunities for consumption should lead to higher spending on advertising and marketing by corporates.

Possibly a less obvious beneficiary is the insurance sector. We anticipate an uptick in policy sales as insurance sales agents can carry out face-to-face sales meetings again.

While the re-opening theme is still playing out for now, we will start to see normalisation of demand in these sectors in the coming months. However, the attraction of Chinese equities extend beyond opportunities arising from the near-term reopening.

The “regime shift” occurring across the globe in terms of de-carbonisation, investment in technology, and increased government spending is also taking place in mainland China. These shifts will take place over the medium to long term and, in our view, can support significant growth for companies with exposure to these themes.

Three long-term themes to watch

1. Electric vehicle supply chain

As the effects of climate change become more evident, the de-carbonisation drive is increasingly important for markets around the world. The need to switch to electric vehicles (EVs) is an aspect of this, and an area where we think China offers particularly interesting exposure for investors.

China is a global leader when it comes to supplying the EV value chain, and also when it comes to demand for the finished vehicles. A staggering 57% of all EVs sold globally in 2022 were sold in China.

Within the EV supply chain, there are a number of companies who are building dominant positions in their respective niches. Take a producer of key components for battery and motor temperature controls in EVs as an example. It commands a c.60% global market share in the air conditioning valve industry, and a greater than 90% share in the EV valve industry. Clients include global EV specialists like Tesla as well as original equipment manufacturers (OEMs) like Ford and BMW. As EVs continue to take market share around the world – helped by regulations - there is good visibility on the company’s growth potential.

2. Technology self-sufficiency

Rising tensions between the US and China have manifested in the technology sector. The supply chain blockages during times of extensive Covid measures and logistical difficulties are a further impetus behind the move to localise production closer to end markets.

There are selected players in the Chinese technology sector that we see as beneficiaries of this accelerating localisation trend. One is a leading domestic computer-aided design (CAD) software provider. China’s CAD market size is increasing steadily on the back of industrial digitalisation.

3. Healthcare infrastructure

Expanding hospital capacity and other healthcare infrastructure is a key government priority now. Meanwhile, the localisation theme also means that domestic healthcare equipment providers should reap the benefits, rather than foreign suppliers.

An example of the kind of company we see benefiting is one engaged in the research & development, production, and sales of digital X-ray detectors. As a market leader in its field, it is well positioned to benefit from both the foreign substitution trend and increasing government spending in mainland China.In short, we see 2023as one of recovery for Chinese shares as the key overhangs of the past few years have been removed. Lifting the Covid lockdowns, providing support for the property sector, and a more stable environment for internet company regulation are factors that can aid near-term recovery. However, China can also count on the longer-term growth themes mentioned above. The key for investors will be identifying the specific companies who will be the winners.