Will a Rising Tide (in China) Lift All Boats (in EM)?
10/04/2024
Ahead of the Golden Week holiday in early October, the Chinese central bank surprised markets by unveiling a smorgasbord of monetary stimulus that exceeded the magnitude of easing in response to the Covid outbreak in 2020. In addition to deploying macro levers via cuts in policy rates and banks’ reserve requirements, the authorities introduced several measures to stabilize the housing market, including relaxing the mortgage burden and expanding an existing program to buy up unsold housing. Perhaps the most headline-grabbing part of the policy toolkit was the war chest of CNY 800 billion ($114 billion) earmarked for bolstering the stock market. In the five trading days after the announcement, the CSI 300 index surged by 25%. Fiscal measures are reportedly in the cards as well.
Without a doubt, the latest stimulus package presents a cyclical spark to the Chinese economy, a welcome move given persistent sluggishness in the post-Covid years. More pertinently, it sends a powerful signal regarding Chinese policymakers’ resolve to do whatever it takes to turn the economy and asset markets around. Alongside declining rates in the US and Europe, macro stability in China presents a constructive global backdrop for risk assets, including EM.
Indeed, parallels are being drawn with China’s colossal spending program in November 2008 in response to the global financial crisis. Nevertheless, we believe there are several interrelated differences that are worth highlighting. First, the initial conditions are distinctly different. In 2008, China was in the midst of a multi-year post-WTO liftoff; its announced policy initiatives had a salutary effect on global growth. In comparison, the current package is entirely domestic-oriented and seeks to counter its own economic deterioration. Second, international trade has since flipped from liberalization to protectionism, fueled in part by rising geopolitical headwinds. Third, the 2008 expenditure program was centered on the country’s infrastructure build-out, which directly benefited commodity exporters. By contrast, bolstering portfolio investment is one key feature of the current package. Given a low stock market participation rate, the wealth effect from the equity rally on consumption — already dragged down by the housing slump and aging demographics — is uncertain.
The upshot of these developments is that the way the Chinese economy interacts with the rest of the world will continue to evolve over time. Specifically for EM countries, the economic impact emanating from China going forward will likely be less synchronized in a generalized sense and more differentiated to reflect idiosyncratic factors. Put in another way, a rising tide in China is less likely to lift all boats in EM, as it did in the past. As a case in point, commodities might exert less cyclical influence than before, given the nature of current policy stimulus, notwithstanding China’s ongoing quest for its long-term security needs. On the other hand, shifting geopolitics and supply chain considerations will push MNCs to diversify their production away from China to alternative lower-cost locations. Despite becoming the world’s second-largest economy, China remains predominantly a producer instead of a consumer. Accordingly, some EM countries may view China as more of a competitor than a customer.
Consequently and as it relates to EM debt investing, CrossLight views the non-monolithic nature of EM as underpinning the case for active management. Instead of a wholesale index-based approach to the asset class, we see the benefit of customization to reflect different strokes for different folks. CrossLight is committed to partnering with strategic investors in identifying unique subsets that are relevant to specific mandates within EM, and subject to specific parameters such as credit quality, risk tolerance, and concentration limits. As the global easing cycle progresses, we expect interest rate differentials to play an active role in driving EM asset prices and spawning long-term value opportunities.