Anthony Wong, portfolio manager at AllianzGI, dives into the Chinese equity sector.
It has been anything but a quiet summer season for Chinese equities.
When China pulled the plug on Ant's IPO in November 2020, it was widely assumed the official explanation about risks to financial security was only a smokescreen for a more personal riposte to Jack Ma, who had become increasingly vocal in his criticism of China's banking regulator.
Since then, the crackdown has extended more broadly, and now includes almost every successful internet company, ride-hailing company Didi Chuxing, and of course the private education sector.
This raises some important questions: why does China want to undermine businesses that have seemingly been so successful? Could the severity of the clampdown on the education sector be repeated in other areas? And how much bad news is already in the price?
First, some context. Through this period, it has become increasingly clear that rather than seeing the internet and other new economy sectors as national champions of innovation, policymakers increasingly see "big tech" as a source of social problems, and financial and security risks.
In many ways, concerns in China about the size of these companies, alleged anti-competitive practices, control of consumer data and getting kids off screens, mirror those of regulators (and parents) elsewhere around the world. Recent changes are partly related to catch-up from the previous very light-touch regime.
But over and above this, there are also significant aspects related to geopolitics and a social agenda.
In terms of geopolitics, a driver of China's policy is clearly the belief that it must lower its reliance on western economies, especially the US. It is no coincidence that China has been pouring resources into R&D, patents and scientific research across areas including AI, semiconductors, robotics, energy storage, gene sequencing and blockchain.
Put simply, this regulatory change is designed at one level to encourage capital markets to put less money into consumer internet services and more into high-tech manufacturing, reflecting the government's long-term goals.
In addition, there has also been a desire to address genuine societal problems. The cost of education, for example, is seen as having an alarming demographic impact, with worries about paying for education weighing on birth rates, as well as exacerbating social inequality.
Could the severity of the clampdown on the education sector be repeated elsewhere? We think this is unlikely.
With the benefit of hindsight, the writing was on the wall in March 2021 when President Xi called the tutoring sector "a chronic disease that is very difficult to cure".
We do not see the announcement making the education sector "not-for-profit" as part of a broader attack on the private sector or on capitalism, per se. Rather, it comes in the context of education being seen as a public good given China's social challenges. Although class is over for many of the tutoring firms, the final outcome in other sectors is unlikely to challenge the viability of whole business models.
Looking ahead, our view is that the intensity and the tone of the recent regulatory crackdown will be lessened.
It was noticeable how state-owned media posted supportive comments for mainland equities only after a bout of weakness in A-shares towards the end of July.
A priority in recent years has been to develop domestic capital markets as a source of funding for the country's long-term economic development. This has become even more important with access to US capital markets now virtually cut off. Therefore, the overriding policy is to reduce volatility in equity and bond markets in China.
Broadly, we expect the regulatory storm to ease and, as the economic impact becomes clearer for each company, it is likely there will in due course be some interesting buying opportunities. Ultimately in our view many companies currently in the crosshairs could continue to grow over the longer term.
Anthony Wong is portfolio manager at AllianzGI