2020 vs 2014 -15: Four differences in China’s market rally

China’s current market rally is taking place against a different macro, monetary and liquidity backdrop, compared to the bull market from late 2014 to 2015. At the same time, internal reforms and external pressures have increased China’s resilience, accelerated structural changes and established new growth drivers. As the new China takes shape, more investment opportunities associated with China’s new economy will emerge, rewarding active investors who are early to the game.

China’s CSI 300 Index is up 10% year to date1, outperforming regional and global peers. While the market’s rally has received much attention, the recent strong performance of the securities companies has been particularly eye-catching, up 17% since the end of June2. For some investors, this brings back memories of China’s spectacular bull market in 2014, which was also accompanied by a sharp rise in the share prices of the securities companies. Since the bull market of 2014 came to a sudden stop in the summer of 2015, should investors treat the current rally with greater caution? We note four key differences between 2014’s bull run and today’s market rally.

Macro backdrop. China’s economy grew at its slowest pace in 24 years in 2014, undershooting the government’s target for the first time since 1998. In fact, it was the first time that the economy grew below 7.6% since 1990. With hindsight, 2014 probably signaled the start of the end of China’s fast-paced growth path as it transitions towards a more sustainable economic model that is less dependent on fixed asset investments, lower-end manufacturing and credit expansion.

Today, China’s economy has rebounded sharply (+3.2% yoy) in the second quarter of 2020, reversing its pandemic-induced contraction (-6.8%yoy) in the first quarter. Not only has the rebound exceeded consensus estimates (1.9% - Bloomberg survey and 2.9% - Wind survey), the economy is expected to recover further in the second half of 2020 as demand and activity normalises.

Monetary policy. To stimulate the economy, the People’s Bank of China (PBoC) started cutting interest rates from the end of 2014. In 1H2015, the central bank had cut interest rates and the reserve requirement ratio three times each. As risk free rates fell, risk appetite rose, and valuation multiples expanded. It was the first interest rate cut in late 2014 that marked the start of a new monetary easing cycle which triggered the rally in the securities companies’ shares.

While China too began monetary easing in 2019, it was part of a much larger reform to liberalise interest rates. In August 2019, the PBoC established that new corporate loans had to be priced with reference to a revamped benchmark (Loan Prime Rate or LPR) that tracks the price of credit to banks’ best customers. The LPR in turn was linked to the rate the PBoC charged lenders for cash over one year (Medium Lending Facility). By linking the market and official rates, the PBoC hoped to improve the transmission mechanism and lower the cost of borrowing. Not only was the mechanism and nature of monetary easing different between the two periods, the 2014 rally in securities companies’ shares was triggered by the first rate cut while the current rally only picked up momentum recently, in the latter stages of China’s monetary easing cycle.

Sources of liquidity. In 2014-15, new market inflows came mainly from margin financing, margin lending from online platforms and structured trusts with leverage facilities. In the current rally, guided by the lessons from the past, the Chinese regulators have exercised rigorous control on margin lending facilities. At the same time, we have observed strong inflows from the Stock Connect Scheme and institutional investors, suggesting that the fund flows into the China market this time around may be higher quality and “stickier”.

Economic development. China has undergone significant economic transformation since 2015. In the last five years, it has enacted supply-side reforms, attempted financial deleveraging and navigated US-China tensions. These internal reforms and external pressures have increased China’s resilience, accelerated structural changes and established new growth drivers. Amid the unprecedented challenges arising from Covid-19, China’s new economy has marched ahead.

The uncertainty surrounding potential new waves of Covid-19 infections and persistent US-China tensions could cloud China’s macro outlook and create market volatility in the near term. Over the long term however, even as China’s economy continue to slow to a more sustainable growth trajectory, we believe that more investment opportunities associated with China’s new economy will emerge. In addition, the top tier companies’ ability to achieve steady growth even under an uncertain macro environment will become more prominent. Active investors who are able to identify both the emerging trends early in the game as well as quality companies with good fundamentals, are likely to be well rewarded.

For Use with Professional Clients / Qualified Investors Only. Not Approved for Further Distribution or Use with the General Public.

The information and views expressed herein do not constitute an offer or solicitation to deal in shares of any securities or financial instruments and it is not intended for distribution or use by anyone or entity located in any jurisdiction where such distribution would be unlawful or prohibited. The information does not constitute investment advice or an offer to provide investment advisory or investment management service or the solicitation of an offer to provide investment advisory or investment management services in any jurisdiction in which an offer or solicitation would be unlawful under the securities laws of that jurisdiction.

Past performance and the predictions, projections, or forecasts on the economy, securities markets or the economic trends of the markets are not necessarily indicative of the future or likely performance of Eastspring Investments or any of the strategies managed by Eastspring Investments. An investment is subject to investment risks, including the possible loss of the principal amount invested. Where an investment is denominated in another currency, exchange rates may have an adverse effect on the value price or income of that investment. Furthermore, exposure to a single country market, specific portfolio composition or management techniques may potentially increase volatility.

Any securities mentioned are included for illustration purposes only. It should not be considered a recommendation to purchase or sell such securities. There is no assurance that any security discussed herein will remain in the portfolio at the time you receive this document or that security sold has not been repurchased.

The information provided herein is believed to be reliable at time of publication and based on matters as they exist as of the date of preparation of this report and not as of any future date. Eastspring Investments undertakes no (and disclaims any) obligation to update, modify or amend this document or to otherwise notify you in the event that any matter stated in the materials, or any opinion, projection, forecast or estimate set forth in the document, changes or subsequently becomes inaccurate. Eastspring Investments personnel may develop views and opinions that are not stated in the materials or that are contrary to the views and opinions stated in the materials at any time and from time to time as the result of a negative factor that comes to its attention in respect to an investment or for any other reason or for no reason. Eastspring Investments shall not and shall have no duty to notify you of any such views and opinions. This document is solely for information and does not have any regard to the specific investment objectives, financial or tax situation and the particular needs of any specific person who may receive this document.

Eastspring Investments Inc. (Eastspring US) primary activity is to provide certain marketing, sales servicing, and client support in the US on behalf of Eastspring Investment (Singapore) Limited (“Eastspring Singapore”). Eastspring Singapore is an affiliated investment management entity that is domiciled and registered under, among other regulatory bodies, the Monetary Authority of Singapore (MAS). Eastspring Singapore and Eastspring US are both registered with the US Securities and Exchange Commission as a registered investment adviser. Registration as an adviser does not imply a level of skill or training. Eastspring US seeks to identify and introduce to Eastspring Singapore potential institutional client prospects. Such prospects, once introduced, would contract directly with Eastspring Singapore for any investment management or advisory services. Additional information about Eastspring Singapore and Eastspring US is also is available on the SEC’s website at www.adviserinfo.sec. gov.

Certain information contained herein constitutes "forward-looking statements", which can be identified by the use of forward-looking terminology such as "may", "will", "should", "expect", "anticipate", "project", "estimate", "intend", "continue" or "believe" or the negatives thereof, other variations thereof or comparable terminology. Such information is based on expectations, estimates and projections (and assumptions underlying such information) and cannot be relied upon as a guarantee of future performance. Due to various risks and uncertainties, actual events or results, or the actual performance of any fund may differ materially from those reflected or contemplated in such forward-looking statements.

Eastspring Investments companies (excluding JV companies) are ultimately wholly-owned / indirect subsidiaries / associate of Prudential plc of the United Kingdom. Eastspring Investments companies (including JV’s) and Prudential plc are not affiliated in any manner with Prudential Financial, Inc., a company whose principal place of business is in the United States of America.