3Q 2024 Investor Letter: Is the Recent Runup in Chinese Stocks a Durable Rally or a Flash in the Pan?

In August 2021, we concluded that China had become un-investable and reduced our exposure to Chinese equities. In our blog “From Beijing to Wall Street,” we outlined the key government actions that reshaped our view of Chinese markets.

More recently, we have seen a shift in policy direction and have reintroduced exposure to Chinese equities.

Why We Initially Reduced Exposure (2021)

In a short period of time, the Chinese government took several actions that significantly altered investor confidence and market structure:

• Canceled the $37 billion Ant Group IPO, a major disruption to capital markets
• Pressured Jack Ma, founder of Alibaba, following public criticism of the Communist Party
• Removed DIDI from Chinese app stores shortly after its U.S. listing, contributing to a ~50% decline in its share price

These actions reflected President Xi Jinping’s broader policy shift away from market-driven capitalism toward “common prosperity,” emphasizing social equality and state control.

Market Impact of Policy Shift

The cumulative effect of these interventions was significant:

• Reduced confidence among global investors
• Capital outflows from Chinese equities
• A ~40% decline in Chinese stock markets over the following two years
• Slower economic growth and weaker business sentiment

What Changed Next? Policy Reversal Signals

Facing slowing growth and weakening confidence, Chinese policymakers introduced a series of stimulus measures on September 24th:

• Lowered short-term interest rates
• Reduced bank reserve requirements
• Cut mortgage rates on existing loans
• Eased restrictions on stock buybacks and institutional equity purchases

These actions marked a meaningful shift toward stabilizing growth and restoring confidence.

Global Policy Context

The timing of China’s policy pivot may have been influenced by global monetary conditions, including U.S. Federal Reserve rate cuts, which allowed China more flexibility without excessive currency pressure.

Following these announcements, Chinese equities rallied from recent lows. Even after subsequent volatility, the FXI China ETF remains significantly higher than its recent trough.

The Current Investment Case for China

Chinese equities now screen as relatively inexpensive compared to U.S. markets:

• Chinese stocks have shown minimal appreciation over ~17 years
• The S&P 500 has risen approximately 270% since 2007
• Institutional exposure to China remains at multi-decade lows, potentially creating room for capital inflows

The core argument is increasingly political:

The Chinese government needs economic growth and functioning private enterprise to maintain stability and legitimacy.

Key Risks to the Thesis

Despite improving policy support, structural risks remain:

• Weak household wealth tied to a declining property market
• Low consumer confidence and weak wage growth
• High youth unemployment
• Productivity stagnation
• Deflationary pressures

As George Magnus notes:

“The bulk of household wealth resides not in stocks but in the beleaguered property market… confidence to spend requires a more stable property market, stronger income growth and a more robust jobs market.”

Positioning and Outlook

We remain flexible in our approach and continue to monitor developments closely. While structural issues are significant, we believe policy direction matters and that the Chinese government has strong incentives to support economic recovery.

As a result:

• We have initiated a position in Chinese equities
• We remain open to increasing exposure on weakness, particularly during periods of geopolitical tension or tariff-related volatility
• We will reassess as new evidence emerges regarding growth, policy, and financial stability

Footnote

[1] The Guardian, “China’s plan to boost flagging growth is the very definition of economic insanity,” George Magnus

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