Why China’s economy will go bad before it gets good
The outlook for the economy in China is risky in the short term, but good in the medium term. The analysis by Michele Morganti, Head of Insurance and Asset Management Research at Generali Investments
Since the recent high on 04/18/2023, MSCI China has underperformed the S&P500, MSCI EMU and MSCI EM by approximately 49 pp, 34 pp and 29 pp respectively. In our opinion, a lot of negative news has already been discounted. The market appears significantly undervalued from several points of view, using both short- and long-term valuation approaches: machine learning (ML) models (-2.6 st.dev.), earnings-rate fair value indicator, CAPE o Shiller PE (P/E ratio based on average inflation-adjusted earnings over the last 10 years, -50% discount) and equity return versus real rates. The average market multiples are at a discount of 26% compared to their history, while they are at a premium for the United States (+37%) and flat for the EMU (+4%). The MSCI China Index also ranks first in our country valuation score (which uses various valuation methodologies) among 45 markets, followed closely by China A-shares (position 4).
While earnings momentum still appears weak relative to the US market, the MSCI China has lagged even further behind the S&P 500 and we expect Q1 to be the weakest economic growth quarter in 2024.
ECONOMIC RISKS FOR CHINA IN THE SHORT TERM
Furthermore, based solely on the historical performance of the Japanese bubble (since 1990), the Chinese stock market (although today extremely more undervalued compared to Japan at that time) could decline limitedly from here in the next few months, and then rise again over the next few months. 6 months, assuming the Japanese experience is repeated.
That said, exports remain subdued and the cyclical leading indicator declining along with macro surprises and earnings revisions.
In summary, we still see some risk in the short term, as economic policy has little chance of becoming too aggressive. Indeed, a bold rate move is not likely anytime soon, as a weaker yuan could trigger further foreign investment outflows and unnerve Silk Road partners. In this regard, the Fed's next cuts will provide the Chinese government with greater room for maneuver to support its economy, even if on the geopolitical front Trump's victory remains a potential risk for export dynamics and the technology sector.
INTERESTING PROSPECTS IN THE MEDIUM TERM
In the medium term, the prospects are more interesting: in fact, even if the negative earnings revisions were to continue for some more time, analysts currently expect rather high earnings growth, of around 15% in both 2024 and 2025 Valuations are already extremely low and monetary and fiscal policy will have a better chance of becoming more accommodative in the coming months.
This is a machine translation from Italian language of a post published on Start Magazine at the URL https://www.startmag.it/economia/cina-economia-prospettive-breve-medio-termine/ on Sun, 11 Feb 2024 06:28:04 +0000.