China: Regulators, Mount Up!

November 09, 2021 | David Hernandez, CFA, Director of Traditional Manager Search

Combination chart showing number of regulatory actions by the Chinese government (columns) and MSCI China Index cumulative returns (line) by month. Chart subtitle: In recent months, Chinese equities have been hampered by new regulations from Beijing authorities aimed at a variety of industries . Chart description: Left Y-axis shows Cumulative Return in percent of the MSCI China Index, from -20% to +15%. X-axis shows months from November 2020 to September 2021. Right Y-axis shows Number of Beijing Regulatory Actions from 0 to 35. The x-axis line is at the 0% mark for the Cumulative Return axis. Prior to this summer, the number of regulatory actions was very low, typically less than 5 per month in the data shown. In May 2021, there were 9 actions; June saw 3, then July had 14, August had 31, and September had 24. The MSCI China Index has struggled with this increase and has been negative each month since June. Chart Sources: Bloomberg, Cornerstone, and MFS; data as of September 30, 2021.

Over the last year, the Chinese government has enacted a series of new regulations targeting several domestic industries including finance, health care, and real estate. In general, the policies that have garnered the most attention are those directed at Chinese technology companies and range from restrictions on the use of advertising algorithms targeting consumers to limitations on the amount of time children are permitted to spend gaming online. As displayed in this week’s chart, these new regulations, the majority of which have been codified in the last few months, have shaken equity investors and led to a significant drop in the MSCI China Index. Specifically, the benchmark lost roughly 18.2% in the third quarter of this year alone as investors scrambled to react to the new regulatory environment in China and its ramifications.

Recent efforts of Chinese government authorities mark a sea change in the country’s social and economic goals and the ways in which those goals are pursued. For decades, China was largely comfortable with encouraging economic development at all costs, however, it seems officials in Beijing have now shifted their focus to pragmatic, quality growth with an emphasis on both prosperity and sustainability ahead of National Party Congress elections in 2022. It is worth mentioning that the developments of the last several months do not constitute a new experience for Chinese companies or investors. China’s government has a history of stepping in after periods of unchecked economic growth, with the targeting of the gaming industry in 2018 serving as a recent example. That said, the significant volume of policy changes that have been enacted in the last year has caught many investors by surprise, which has led to the drawdown in Chinese equity indices described earlier.

While this type of volatility can be difficult to stomach for most market participants, it can also allow investors the chance to purchase securities at more attractive valuations. To that point, many portfolio managers with a focus on Asian markets have expressed an interest in increasing their exposure to Chinese equities over the coming months given the dislocations that have potentially arisen as a result of the recent pullback, though most still expect market fluctuations to continue in the near term. Investors with exposure to Chinese markets should remain disciplined in their approach and cognizant of both the risks and potential opportunities stemming from the current situation.

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The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

David Hernandez, CFA
Director of Traditional Manager Search

Get to Know David

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

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