“Let China sleep, for when she awakes she will shake the world” – Napoleon
Since the introduction of economic reforms more than 30 years ago, China’s importance to the global economy has grown dramatically.
It has experienced rapid growth in GDP but, in per capita terms, remains a poor country. Despite the expectation that it will overtake Japan in 2010 to become the world’s second largest economy, China is yet to experience the rapid acceleration in consumption that has typically been enjoyed by developing nations with similar income per head as China has today.
We should therefore expect domestic consumption to become the primary driver of economic growth, taking over from exports and infrastructure investment.
As this happens, investors should be able to find similar stock-picking opportunities to those in the UK and Europe a generation ago; despite its growing economic influence, China’s stock markets are still relatively immature.
THE MIDDLE KINGDOM ONCE MORE
The recent rapid growth in China’s economy marks a dramatic shift from the relative introspection and international isolation of the past two hundred years. On a longer view, however, it can be seen as a return to the status quo ante.
For hundreds of years prior to the industrial revolution, China was a leading player in the global economy. In recent years, China has decoupled from the developed world, with higher overall growth and a greater resilience to the financial crisis than its counterparts in the West.
China’s GDP has grown by an average of 9.9% over the past two decades. Having contributed 3.7% to the global economy in 2000, China is forecast by the IMF to account for 11.1% of worldwide output in 2014.
Goldman Sachs has forecast that China’s will be the world’s largest economy by 2027 and other estimates see the culmination of this power shift occurring even sooner.
China’s GDP nearly quadrupled between 2000 and 2009, from US$1.2trn to US$4.7trn, while that of the US rose over the same period from US$10.0trn to US$14.3trn. As a consequence, China’s contribution to global growth was 80% of that of the US, despite starting the period with an economy one-eighth the size of America’s.
China overtook Germany to become the world’s largest exporter in 2009, accounting for an estimated 9.9% of global exports in 2009, helped by a currency which China has been accused of keeping artificially low to stimulate overseas sales.
China’s economy has moved significantly up the value chain during the past 30 years. Since 1978, the number of Chinese working in the service sector has grown from around 50 million to 300 million, while the number working on the land has remained broadly unchanged at 300 million.
The increasing sophistication of the Chinese economy is reflected in the growing importance attached to science and technology, where research spending has grown rapidly, and by a rapid increase in the numbers of postgraduate students. China is no longer just the workshop of the world but increasingly a force to be reckoned with in the industries of the future.
CHINA AND THE S-CURVE
Despite the overall size of China’s economy, in per capita terms, the country’s GDP remains well below those of many developed nations such as the UK, Germany, Japan, France and the US.
Comparisons with other developing nations suggest, however, that China’s income per head is at a level where a rapid increase in domestic consumption can be expected. History shows that countries such as Korea, Taiwan and Japan experienced rapid increases in spending on household goods and services as their GDP per capita increased from about US$5,000 to US$10,000.
Low levels of personal indebtedness compared to the developed (and especially the Anglo-Saxon world) and a high household savings rate provide a solid foundation for domestic spending to continue growing at a relatively rapid rate.
The potential for further growth is illustrated clearly by car sales data which shows that, despite recently overtaking the US as the world’s largest market for auto sales, China still has an extremely low passenger car fleet when measured per head of population.
The expectation that domestic consumption can drive economic growth in future years is further underpinned by the relatively low contribution of private consumption to overall economic output. While the US consumer accounts for around 70% of American GDP, private consumption in China is less than half of total output.
CONCLUSION: THE STOCK-PICKING OPPORTUNITY IN CHINA
The Chinese stock market is relatively immature when measured against China’s economic influence and the markets of developed countries.
Despite its high ranking in global GDP terms, China’s stock market is smaller in market capitalisation terms than those of Germany, Switzerland and even Australia.
The relative insignificance of China in stock market terms has contributed to its quoted companies being less intensively researched than those in more developed markets. This lack of research is reminiscent of the markets in the UK and Europe 20 or 30 years ago and is likely to make the Chinese stock market a more fruitful hunting ground for fundamentally-driven stock-pickers.
Research has shown, moreover, that valuation differentials have a greater influence on stock market performance in emerging markets such as China than in more intensively-researched markets such as the US. The benefit of investing in the most attractively-valued stocks and avoiding the least attractive is far greater in emerging markets where the “information advantage” is most pronounced.
This is a guest post from Tom Stevenson, Investment Director at Fidelity International. It is the first in a series of articles in a BRIC by BRIC mini-series, produced exclusively for BrilliantWithMoney and Informed Choice.
Past performance is not a guide to what might happen in the future. Please note the value of investments can go down as well as up so you may get less than you invested. Investments in small and emerging markets can be more volatile than other developed markets and changes in currency exchange rates may affect the value of an investment. The ideas and conclusions in Tom Stevenson’s article are his own and do not necessarily reflect the views of Fidelity’s portfolio managers. They are for general interest only and should not be taken as investment advice or as an invitation to purchase or sell any specific security.
