China’s broader-than-expected stimulus package has provided a large jolt, buoying investor confidence in its battered economy. The recently announced measures, including new tools for China’s central bank to help firms buy back shares via refinanced bank loans, prompted investors to rush into China stocks on the last Friday of September. Shares on the Shanghai Stock Exchange soared with turnover reaching US$101 billion in the first hour of trading.1 The exchange was initially plagued with glitches in processing orders and delays ahead of the last day of September when China stocks eventually rose to see their best day in 16 years.2
With China’s new policy-rate cuts, we now see the world’s second-largest economy potentially embarking on a more focused path of economic revival. Renewed efforts in China aim to help securities companies, insurers and other institutional investors raise funds by enhancing their balance sheets. We view the immediate market response to such moves as a strong indicator, not only of investor appetite for value, but also a “fear of missing out” sentiment that we believe may drive the market rally higher. Short covering3 likely also played a role. Traders that suffered heavy losses may not be willing or able to bet against the government again any time soon, which could add stability to the latest rally, in our opinion. Even so, given that China’s weak domestic consumption, troubled housing sector and other structural issues may continue to weigh on the economy, quick fixes seem unrealistic. However, the signal these measures have sent to the market appears stronger than at any time in at least three years and have planted the seeds for an improving perception of China’s equity market.
Exhibit 1: Breakdown of the Surprise Package
External geopolitical risks continue to pose prevailing uncertainty, especially as we count down to the US presidential election. Also, chatter over the potential for a US-China trade war endures. Analysts continue to debate the implications of a Kamala Harris presidency versus a second Donald Trump term in the White House. Current US election polls still reveal a tight race across many levels of elected government. Investors may be able to take some comfort from the likelihood that the United States may continue to experience a divided Congress—the norm for the past several decades—as this can minimize sweeping legislative change.
All this is not to say that we aren’t encouraged by the recent grit displayed by China’s leaders in their urgency to stabilize markets. In fact, the moves have already led emerging market stocks to rise to highs not seen in more than two years.4 Equity markets of Brazil and South Korea, which both hit year-to-date lows in August, have since been lifted higher.5 The same is true for Mexico’s market, which saw its stocks advance after slumping in early September.6
However, this may serve as a reminder of the case for long-term global market opportunities.
Exhibit 2: Asian and Emerging Markets: A Diverse Bunch
While the market’s focus this week may be on China—and the long-term case for an allocation in Chinese equities has likely improved with the latest announcements—we cannot stress enough the importance of diversification. Asian and emerging markets have increasingly shown bifurcation, and we expect this trend to continue. Since the global interest-rate cycle, the US election and geopolitical fragmentation are all questions that add layers of complexity, we believe investors should prioritize flexibility and nimbleness in this economic climate.
South Korea
In our view, South Korean valuations coupled with improving corporate governance and a push for shareholder value make for a strong foundation and could potentially offer a risk cushion. The AI business ecosystem, including semiconductors, certainly remains as a key growth driver. In 2023, the AI market in South Korea was valued at US$2.4 billion, and is projected to grow to US$28.2 billion by 2032.7 Although the country lags slightly behind Taiwan in the manufacturing of cutting-edge chips—and the consumer electronics focus has been a drag compared to Taiwan’s more pure-play approach—this should now be largely reflected in valuations, in our analysis. If global growth holds up, we think South Korea could become a compelling turnaround story.
Japan
The forward price-to-earnings multiple for Japan’s market currently sits at about the same level as its 10-year average of 16x.8 However, structural changes are firmly underway, including corporate reforms and more government incentives driving money into Japanese stocks.
Exhibit 3: Japan Corporate Current Profits
In 2023, the Tokyo Stock Exchange initiated measures that require listed companies to focus on their price-to-book ratios. Rising corporate profits—helped by higher, but still moderate inflation—may allow for large share buyback programs and more attractive dividend policies. We expect that 2024 should see a record in share buybacks, already up 60% at mid-year.9 International activist investors have begun to take notice and are increasing their exposure to the country. This should put further pressure on companies to improve shareholder value.
Conclusion
We think China’s concerted comeback efforts in global markets is a positive signal for the country and the wider region. In our opinion, long-term trends like technological leadership, attractive valuations and the leveling up of manufacturing capabilities offer ample opportunities for investors along the risk spectrum. The path forward will not be smooth sailing, but we believe the biggest risk for investors could indeed be to sideline these markets in their allocation decisions.
WHAT ARE THE RISKS?
All investments involve risks, including possible loss of principal.
Equity securities are subject to price fluctuation and possible loss of principal.
International investments are subject to special risks, including currency fluctuations and social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets. These risks are magnified in emerging markets.
The government’s participation in the economy is still high and, therefore, investments in China will be subject to larger regulatory risk levels compared to many other countries.
There are special risks associated with investments in China, Hong Kong and Taiwan, including less liquidity, expropriation, confiscatory taxation, international trade tensions, nationalization, and exchange control regulations and rapid inflation, all of which can negatively impact the fund. Investments in Hong Kong and Taiwan could be adversely affected by its political and economic relationship with China.
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1. Source: Bloomberg, September 27, 2024.
2. Source: Bloomberg, September 30, 2024. The Shanghai Stock Exchange Composite Index, also known as the SSE Index, is a stock market index of all stocks that are traded at the Shanghai Stock Exchange. Indexes are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.
3. Short covering refers to buying back borrowed securities in order to close out an open short position at a profit or loss.
4. Source: Bloomberg, September 25, 2024. The FTSE Emerging Index is an international equity index, which tracks stocks from emerging markets worldwide. Indexes are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.
5. Ibid.
6. Ibid.
7. Source: IMARC Group.
8. Source: Bloomberg, MSCI, analysis by Franklin Templeton, as of August 2024.
9. Source: “Japan stock buybacks hit $57bn, speeding toward annual record.” NikkeiAsia. June 12, 2024.
