What happened?

Just as autumn signals a process of regeneration, the announcement of China’s third-quarter GDP data this week looks to be signalling an important transition in the country’s economy.

  • Headline GDP growth is in line with expectations, having slowed to 6.9% year-on-year (consensus: 6.8%) from 7.0% in the second quarter. That said, nominal GDP growth is much weaker, slumping to 6.2% year-on-year from 7.1% over the same timeframe.
  • At the sector level, GDP growth of the industrial sector slowed to 5.8% year-on-year in the third quarter, while the service sector grew by 8.6%, a reflection of the (bumpy) rebalancing process the economy is undergoing.
  • Over 1Q-3Q15, the share of the service sector in overall GDP rose above 50% (51.4%) for the first time in history. During the same period, the contribution from consumption to GDP growth increased to 58%, up from 49% a year ago.

What happens next?

The data – while not market moving – does reinforce our belief that Chinese policymakers are doing a better job than is perceived by markets. While the transition to a more balanced, less volatile and more consumer-led economy will take time, it is clear that China is now firmly on this path. In time this will be important for the quality and sustainability of growth and risk premia in the market.  

Nominal GDP suggests the underlying economy is softer than the headline, strengthening the case for further policy easing. Looking ahead, we are comfortable that the slowdown in the third quarter will be followed by a modest improvement for the rest of the year on policy easing and better property investment. Credit growth has been very strong for the past three months and liquidity conditions have eased a lot recently with 10-year treasury yield dropping below 3% last week (the first time since 2009). As such, we expect to see some rebound in investment growth in the coming months.

What are we doing?

  • Asian equities are now at valuation levels which are reflective of significant negativity, and which historically have meant a very high probability of positive returns in the next 12 months. At the same time, we are observing a very high concentration into ‘quality’ again indicating extreme investor pessimism.
  • We are buying select value names and cyclical exposure in China as we think economic activity will surprise on the upside from what is currently priced in.
  • Between A and H shares, we continue to prefer H shares given valuation differentials but certain A shares in the blue chip space have fallen to levels that are starting to look attractive.
  • We remain overweight China in most of our regional portfolios. We continue to remain positive on India for its strong reform story and continue to find interesting stock ideas, especially in the mid-cap space.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or financial product or to adopt any investment strategy. The opinions expressed are as of 16 July 2015 and may change as subsequent conditions vary.
RSM-2215