Xi agenda defines a decade, and era, for China’s capital markets

Xi Jinping rose in Beijing’s Great Hall of the People on Sunday to deliver a keynote speech about China’s policy priorities — and foreign investors were paying just as much attention as his vast domestic audience.

At the Chinese Communist Party’s national congress this week, Xi is expected to seal an unprecedented third five-year term as CCP leader and therefore become the country’s most powerful person.

During the previous decade of Xi’s leadership, investors have been excited by the potential for the world’s second largest economy to deliver returns mirroring its strong growth. But changes of policy have led to big reversals and disappointments.

In this time, China became one of the leading global venues for raising capital, reflecting its growing economic might. A new Shanghai stock market, modelled on the tech-heavy Nasdaq exchange in the U.S., was delivered to channel capital to fast-growing companies. Outside the country, Chinese tech companies delivered some of the world’s biggest listings including what was then the largest ever, by Alibaba Group Holding, in 2014.

But shifts in regulations have shaken capital markets, worried investors and even led to questions over whether China has become “uninvestable.” They wrecked the prospects of some large tech initial public offerings, including the planned 2020 market debut of Alibaba’s financial offshoot Ant Group. Growing geopolitical frictions between Beijing and Washington have driven some offshore-listed Chinese firms home from the U.S.

Investors’ sentiment toward China investments has soured. Last Monday, the Shanghai Composite Index dropped below 3,000 points, a key reference point for retail investors who dominate the onshore equities market.

The CSI 300 index, which institutional investors refer to closely as it includes high-growth sectors often of strategic importance, also hit its lowest level in two years. The indexes are down by 18% and 23% this year — though in the U.S. the S&P500 is also 24% down.

Hao Hong, chief economist at Grow Investment Group, said many investors see the mainland market as being at its worst in its history.

Western investors are trimming exposures, said a Singapore-based senior executive for an alternative fund organization. “If you are setting up a China equity long-short fund today, you will have difficulties raising fresh capital,” he said under the condition of anonymity.

However, “we’ve been through this before,” said the Singapore executive, citing the 2015 stock crashes, and Chinese regulators’ hostility to investors who bet against the market.

There was a chill in Chinese markets at the time Xi’s tenure started in 2012, with an IPO “freeze” to crack down on fraud in equities. But China’s stock market rallied from 2014 when the central bank primed the economy with $100 billion via the biggest state-owned banks. That sucked in retail investors, many using borrowed money to bid up stock prices. The ensuing market crash, in 2015, prompted China’s state-backed bodies to intervene by purchasing large amounts of stocks to hold up the market.

That was a pivotal moment, along with the 2008 global financial crisis, some point to as having made Xi lose confidence in market economics. “His strategic orientation is pushing China away from the market despite the market being responsible for China’s rise as a great power,” according to views from the Asia Society Policy Institute’s Center for China, which Goldman Sachs published in a recent report.

Xi himself has associated stock market volatility with systematic financial risks for China. In a speech in late 2015 he said the recent turbulence in the capital market showed that China must ensure financial safety “and prevent systematic risks efficiently” via reforms. In 2017, he again stressed that the “financial sector should serve the real economy.”

The outperformance of Chinese stocks in 2019 followed more economic stimulus and stock market reform including launching the Nasdaq-style STAR Market in Shanghai. The 2020 and 2021 rallies were the results of early success with China’s zero-COVID policies, as Beijing managed to deliver economic growth despite closing off to the world. But its continued attempts to maintain zero-COVID are now more of a headwind for investors.

Foreign investors held around 3.4% of onshore equities by market value as of September, and have been reducing onshore bond holdings for most of this year.

Many investors are trying to think about how to direct money to stocks that reflect Xi’s political priorities, including this idea of “common prosperity,” which became a byword in 2021 for the party’s crackdown on society’s richest and its tightened control over the private sector.

Goldman Sachs for instance has mapped “common prosperity” with a suggestion to buy into sectors such as autos, consumer durables, retailing and media, and semiconductors.

The bank also expects global investors to raise allocations to Chinese stocks to 9% by 2030, according to Kinger Lau, chief equity strategist.

Even if foreign flows are absent for a longer-than-expected period, domestic retail investors would likely propel a local equity market rally, said Chetan Seth, Asia-Pacific equity strategist for Nomura.

Chinese investors are increasingly putting savings into the equities market through mutual funds. Such pooled investment vehicles make up the majority of the growing wealth market, which more than doubled by assets from 2014 to mid-2022.

But even the optimists sound a cautious note. Investors hope the regulatory framework will be “more predictable and aligned with economic interest,” said Dmitriy Vlasov, a portfolio manager with East Capital in Hong Kong, adding that regulation will remain a key risk for China equity investors.

A big question is when the zero-COVID policy might change. The People’s Daily, the official party newspaper, reaffirmed the policy in its editorial on three consecutive days last week, nixing hopes of any relaxation. “Zero-COVID is sustainable and must be carried out,” the paper said.

The agenda being pursued in China “is consistent with the underperformance of China equities,” Julian Evans-Pritchard, an analyst with economic research company Capital Economics, said during a webinar this month. “As Xi continues to consolidate power, that’s not a particularly good thing for the outlook for economic reform.”

Author: ECHO WONG, NIKKEI Asia