BlackRock’s Weekly Market Commentary: Our views on China’s policy finetuning

By BlackRock Investment Institute

We see China’s recent policy loosening as an important shift to a modestly more supportive stance for the near term, yet don’t expect the overall hawkish bias to change as it is crucial in China’s focus on quality growth in the medium term. This is supportive of our views on China: We are neutral on equities and overweight government bonds tactically, and positive on both on a strategic horizon.

Chart of the week

Actual and estimated China real GDP, 2019-2022

Forward looking estimates may not come to pass. Sources: BlackRock Investment Institute, International Monetary Foundation, Thomson Reuters, with data from Refinitiv, July 2021. Notes: The solid orange line shows the actual path of Chinese real gross domestic product (GDP) from 2019 onwards. The yellow dotted line shows the IMF’s projections outlined in its 2019 October World Economic Outlook – the last published estimate before the Covid shock hit. The data is rebased to 100 at the first quarter of 2019.

We debuted our standalone China asset views in our Midyear 2021 global outlook, as we believe it is time to treat it as an investment destination separate from emerging markets (EM) and developed markets (DM). China’s policymakers have held a hawkish stance since mid-2020; China’s economy returned to its pre-pandemic growth trend in late 2020, as shown in the chart. In recent months growth has shown signs of slowing, though last week’s data was largely positive, with better-than-expected June activity data and slower-than-expected second quarter GDP growth. This may have given Beijing the incentive to frontload policy support in order to stave off a potentially more pronounced slowdown, especially as inflation pressures have eased, in our view. Earlier this month the People’s Bank of China cut the reserve requirement ratio for most banks, or the required amount of cash banks must hold as reserves. We see potential for more, broad-based loosening in the near term, including in fiscal and other policies. Yet we expect a measured approach from policymakers, and see their medium-term hawkish stance unchanged despite the near-term finetuning. A Chinese Communist Party’s politburo meeting later this month will be key to watch.

We see an overall hawkish policy stance as critical to China’s “quality revolution” – an effort to move away from an overriding effort on the quantity of growth toward a greater focus on the quality of growth. China aims to become a more productive economy with each unit of incremental GDP generating proportionately less pollution, inequality and financial risk (debt). This is key to our China asset views. We are tactically neutral on Chinese equities but strategically positive because we believe ongoing reforms in China could weigh on near-term growth but potentially improve its quality in the long run. We are overweight Chinese government bonds on both tactical and strategic basis as we believe China will continue to have relatively high nominal and real yields compared to global peers, thanks to its hawkish policy stance. The persistent inflows to China bond exchange-traded products (ETPs) have underlined the appeal. Year-to-date cumulative flows into global China bond ETPs stood at $14.1 billion as of July 12, vs. a record $16.2 billion in 2020, our data showed.

Monetary and fiscal policy tightening is just one aspect of China’s overall hawkish policy stance, with the other two being measures to stabilize property price increases and an anti-monopoly clampdown. Property market policies will unlikely change much, in our view. The anti-monopoly campaign has become a significant market driver, causing China’s tech sector to shed as much as $1 trillion in market capitalization since February. As a result, market positioning has become much less crowded in this space and market pricing now looks to be somewhat reflecting the clampdown. We expect this campaign to continue, but see potential for reduced intensity as the government’s near-term focus shifts to encouraging growth. This renewed focus on growth may also continue to keep credit defaults contained, after the effort to restructure China’s credit markets to nurture more productive companies and a healthier economy has driven an increase in corporate debt defaults this year, in our view.

The bottom line: China’s policymakers may be loosening up policy for the near term, but we still expect them to uphold the hawkish stance over the medium term to advance its quality revolution. Strategically we see a need for dedicated exposures to China as one of the two poles of global. We recognize implementation of our asset views will differ across investor types and geographies, depending on objectives, constraints and regulation.