China: The Second Great Transformation

China’s transformation represents a profound shift in focus from volume to value and from quantity to quality.

1 Jun 2018

64 minutes

An energetic and assertive China

China’s first great transformation began in 1978-79 when it abandoned the Soviet model in favour of opening its markets and allowing private ownership. Since the mid-2000s, however, reform momentum began to slow. It started to become increasingly apparent that China’s post-1978 growth model had become progressively unsustainable. Now a new generation of highly competent and effective leaders, with President Xi at its head, is driving China’s ‘Second Great Transformation’.

If successful, the reform process will increasingly steer the economy onto a new path – a path characterised by consumer-sector-led growth, a hybrid banking and capital markets financial system, reform of the state-owned enterprise (SOE) sector, and greater integration with the world economic and financial system. In effect, this is a ‘Second Great Transformation’ and represents a profound shift in focus from volume to value and from quantity to quality.

The objective is to allow the ‘new economy’, and more nuanced demand management, to sustain growth, while undertaking significant supply-side reforms in the SOE sector to dramatically reduce debt dependence and poor capital productivity.

We believe that such a course of change and renewal makes Chinese assets much more investable. In the past, the way to convert the impressive Chinese macro story into returns has been to focus not on Chinese assets, but those of suppliers to China, such as resource companies, resource-producing economies or exporters of capital and consumer goods. Yes, digital leaders’, such as Tencent and Alibaba, have delivered impressive returns, but they have been the exceptions to the general rule. This is now changing and, to judge by current Chinese equity valuations, that change is not yet reflected in prices.

From an external investor’s perspective, we sense that we have reached a significant juncture. China, not America, is likely to determine the investment narrative for the next 50 years. The level of representation of Chinese assets in most conventional indices and global portfolios is wholly inadequate. China’s level of ambition echoes that which drove Dutch, British and American global leadership. In that vein, China cannot be viewed as just another emerging market – its combination of scale at all levels and technological ambitions make it unique and its trajectory is without precedent.

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Philip Saunders - Co-Head of Multi-Asset Growth, Wenchang Ma - Portfolio Manager China Equities, Greg Kuhnert - Portfolio Manager Asia and China Equities, Michael Power - Strategist, Archie Hart - Portfolio Manager Global Emerging Market Equities, Charlie Dutton - Portfolio Manager Asia Equities, Mark Evans - Investment Specialist Asia and China Fixed Income, Mike Hugman - Portfolio Manager Emerging Market Blended Debt and Multi-Asset, George Cheveley - Portfolio Manager Global Natural Resources, Truman Du - Analyst China Equities, Joanna Yang - Analyst Asia Equities

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