Transcript
Speaker: Welcome to HSBC Global Viewpoint, the podcast series that brings together business leaders and industry experts to explore the latest global insights, trends, and opportunities.
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Speaker: And now onto today's show.
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Speaker: Hello and welcome to Under the Banyan Tree, where we put Asian markets and economics in context.
Speaker: I'm Fred Newman in Hong Kong.
Speaker: On today's show, we're looking at the world-beating rally in Chinese equities.
Speaker: What's powering the surge?
Speaker: And are there some ideas about investing in China that need a second look?
Speaker: We're talking AI, tariffs, property, debt, and much more.
Speaker: I've got a special guest with me today, who I'll introduce in just a moment.
Speaker: From HSBC Global Research, you're listening to Under the Banyan Tree.
Speaker: So let me start by introducing today's special guest.
Speaker: He's my fellow co-head of Asia Research here at HSBC and also heads up our equity research business across the region.
Speaker: For the first time, Elliot Kemplisson, welcome to Under the Banyan Tree.
Speaker: Thank you, Fred.
Speaker: And I can't believe it's taken me this long to get onto your very popular podcast.
Speaker: Well, we tried to avoid having you on, but we ran out of topics and ideas.
Speaker: So we're going to dive into the rally in just a minute.
Speaker: First of all, let's take a look at some of the numbers.
Speaker: At the time of recording, the Hang Seng China Enterprise Index, that's large cap Chinese companies that are listed in Hong Kong, is up around 17% over just the last month and more than 30% since September of last year.
Speaker: That makes it the number one performing equity market globally, actually.
Speaker: I know a lot of focus on the US market, but actually the Chinese market on these metrics has actually outperformed.
Speaker: So, Elliot, this is a big rally in Chinese equities.
Speaker: But before we talk about that rally, let's wind back a little bit.
Speaker: A year ago, and you've been in the equities business for a long time.
Speaker: You talk to a lot of investors.
Speaker: You have sort of your finger on the pulse.
Speaker: What was the perception about Chinese equities, if you just think about a year ago?
Speaker: Last year was pretty scary.
Speaker: And I think we got to a point where a lot of people were...
Speaker: thinking about very permanent new things about China, that China wasn't going to come out of the problems it had in the property market, in debt issues, in local government vehicles and so on.
Speaker: And it had become a conversation about maybe I don't need to be here.
Speaker: And that was really something new.
Speaker: And as you say, you and I have been around a long time.
Speaker: We've done a lot of cycles.
Speaker: This was the first time we'd ever had conversations like this.
Speaker: And to give you an example,
Speaker: one of the most popular questions became, oh, can you give us information about emerging market funds that don't include China?
Speaker: Now, when you think about how important China was to all emerging market funds, particularly up to 2022,
Speaker: That was unthinkable.
Speaker: And yet we were really fielding that question in 24 of saying, hey, can we invest in emerging markets but not China?
Speaker: And that really was, that was an eye-opening moment.
Speaker: And it really was.
Speaker: It was about this time last year.
Speaker: So it was a bit like, give me anything in emerging markets but China a year ago.
Speaker: Yes, exactly correct.
Speaker: Yeah.
Speaker: And I think if I remember correctly, there were even some funds that closed down the China desks that were moving funds out of China to other regions, just even stopped looking at China.
Speaker: Absolutely correct.
Speaker: We had clients saying, we're not going to continue growing our office in China or we're going to pull back permanently.
Speaker: And the other thing that happened at the same time, of course, a lot more attention went on Japan and India.
Speaker: While Japan is a developed market, obviously, India became, I'm going to allocate more capital to that region.
Speaker: And that gives me a way of saying, OK, I'm not worried about losing China.
Speaker: But again, I want to stress this, that what we were seeing in February last year, the discussion was about this being a permanent issue.
Speaker: And just to put this into context, we're talking about the second largest equity market in the world.
Speaker: This is not, we're not talking.
Speaker: And the most tradable.
Speaker: The most tradable.
Speaker: Incredibly liquid.
Speaker: One of the problems always in emerging markets, as you know, is a lot of emerging markets, it's very hard to deploy a lot of capital.
Speaker: And China was always very good at that.
Speaker: Very broad base of very interesting companies.
Speaker: And you could put a lot of money to work.
Speaker: And so when you say we're not going to do that, there's not a lot you can replace it with in emerging markets.
Speaker: So, okay, second largest market in the world.
Speaker: Investors, particularly global investors, say, I don't really see a future here.
Speaker: I'm no longer looking at it.
Speaker: I take it off my screen, my Bloomberg screen.
Speaker: I no longer look at that.
Speaker: Now, 12 months later, here we are.
Speaker: What has happened?
Speaker: Give us a sense of, put the rally in perspective.
Speaker: So the rally in perspective, you highlighted at the beginning, everyone's talking about what's happened this year, but really,
Speaker: This started March, April last year.
Speaker: Markets are very good at pricing events before they happen.
Speaker: And this is really important.
Speaker: The numbers haven't got much worse.
Speaker: So I'm not going to sit here and pretend to you that lots of problems are solved and we're rallying in things like property prices or debt levels at local government.
Speaker: Those haven't been solved, but they haven't got worse.
Speaker: And what do I mean by that is sales have found a flaw in property.
Speaker: We're starting to clear inventory of all those famous pictures you get in magazines showing you empty apartments in tier three, tier four cities in China.
Speaker: They're starting to clear.
Speaker: So we're not done, but we're not getting worse.
Speaker: And I think a really good example is the most recent consumer statistics we've seen out of spending in the holiday season in China.
Speaker: It was a very mixed picture.
Speaker: It wasn't, hey, you know, you're out of jail, everything's great, everyone's out buying luxury goods and going to restaurants and everything's fine.
Speaker: No, it wasn't that.
Speaker: But it was quite a nuanced picture of shifting spending patterns.
Speaker: We've seen downgrading to sort of some cheaper items.
Speaker: But what we didn't see was worse.
Speaker: And the market likes that.
Speaker: So what you're saying in many ways, what was in the price, say, a year ago, was kind of the worst case scenario.
Speaker: Our China wouldn't grow anymore.
Speaker: Couldn't you get worse?
Speaker: Couldn't you get worse?
Speaker: And the fact that it hasn't, then investors now saying, oh, yeah.
Speaker: Dear, it actually isn't going to disappear overnight.
Speaker: Yeah, it was that simple.
Speaker: But that's exactly right.
Speaker: It's oh, if if property is not going to zero, if people are still going to buy apartments, if there is going to be some kind of consumer sector, you remind yourself that for many, many years, China's been a fantastic opportunity set.
Speaker: for the investor.
Speaker: And what's interesting is when this begins, it's not even about talking about index levels going up or down.
Speaker: It's a reminder that even in a flat market overall environment, as we saw in Japan for many, many years, don't forget,
Speaker: You start to see some companies deliver on earnings and, in fact, improve earnings.
Speaker: And that gives you confidence to say, oh, the economic system is reacting to this change.
Speaker: And that was really, you know, as well as the overall macro numbers not getting worse, is you started to see select companies actually grow a little bit.
Speaker: It's interesting you say that because as an economist and I look more at the macro numbers, really there hasn't been that improvement, right?
Speaker: The market has rallied as we discussed, but you don't really detect necessarily a shift in economic numbers that would suggest there's an imminent kind of surge in activity coming through.
Speaker: It's not that things get worse, but it's sort of ticking along.
Speaker: But you're saying it's because of expectations essentially.
Speaker: Yes.
Speaker: Now, the other thing why it's striking that we have this rally now in equity markets because the global environment doesn't seem necessarily conducive to investors being bullish on Chinese equities.
Speaker: We have obviously a new occupant in the White House who's threatened tariffs on China.
Speaker: That's going to make life hard for Chinese exporters inevitably.
Speaker: There's a bit of tensions coming through there.
Speaker: The US dollar rates are still very high.
Speaker: That takes money out of China, pulls it into the US.
Speaker: So how do you explain that despite those tariff threats, for example, we see the Chinese market kind of shake it off and say, oh, it doesn't matter?
Speaker: Two things.
Speaker: One, as you mentioned already, expectations.
Speaker: We've been expecting tariff news changes, higher or lower, whatever your particular version of that tariff story was.
Speaker: We've been talking about this for an awfully long time.
Speaker: In fact, you know, first mentions of trade wars between China and the US were seven or eight years ago.
Speaker: Really what matters is the difference between what people expect and what's coming out in the headlines.
Speaker: And you could argue at some level that maybe the headlines haven't been as dramatic as many feared.
Speaker: So far, that could, of course, change.
Speaker: I think the second thing is, and you've written about this extensively in your work with your team and we have on the equity side as well, is the actual impact of tariffs on, in particular, a lot of corporates,
Speaker: is not that high.
Speaker: So if you think about China's EV companies, the car companies making all these, by the way, if you get to go to China, they have really quite incredible product.
Speaker: You know, the reality is they aren't shipping a lot of cars to the US.
Speaker: So it's not a huge impact on earnings.
Speaker: So then if we just strictly look at the earnings impact,
Speaker: It's not really changing things.
Speaker: It's not as material as one would.
Speaker: Yeah.
Speaker: The one number that always sticks in my head from an economic perspective is that only about 2.5% of China's GDP is dependent on U.S. demand.
Speaker: It's not nothing, but it means that 97.5% of the economy is dependent on something else.
Speaker: So, yes, it can sting a little bit.
Speaker: But it's not necessarily the end of the world.
Speaker: And it's a very similar story in corporate land, particularly in very large cap China entities that you mentioned earlier, the HSCEI.
Speaker: So those entities that are listed in Hong Kong.
Speaker: Those are often large Chinese companies that are very domestic in their business.
Speaker: Those are banks, for example.
Speaker: China Mobile.
Speaker: Those are telecom companies who actually don't export, per se.
Speaker: And so the market is much more insulated from that perspective.
Speaker: Now, there is a big element here.
Speaker: We haven't touched on this, and that is tech.
Speaker: But I think this is a good time to take a break.
Speaker: And when we come back, I really want to dissect a little bit the rally on technology because that's sort of the standout.
Speaker: And then we'll try to put the Chinese cycle a little bit in perspective in terms of the history of how markets perform in Asia.
Speaker: So welcome back.
Speaker: Before the break, we talked a little bit about the change, just incredible change in perceptions about the Chinese market going from, I don't want to look at this, don't even give me a stock idea about China, to, well, what have you on offer?
Speaker: It's really extraordinary change over the last 12 months.
Speaker: The market's performed well.
Speaker: We talked about it.
Speaker: Why?
Speaker: That's because a lot of it was, you know, people felt like it wasn't getting worse, as you said.
Speaker: It's partly because tariffs don't matter for Chinese companies as much as one would think.
Speaker: So there are many reasons.
Speaker: But I think there's one catalyst that stands out.
Speaker: And that actually, that catalyst really came into play on the day of the inauguration of Mr. Trump.
Speaker: Tell us about that.
Speaker: So obviously Fred, you're talking about DeepSeek, which must be the fastest rise to fame of any obscure piece of software on the planet.
Speaker: I think a couple of things about DeepSeek.
Speaker: The first one is it had actually been around for quite a while.
Speaker: And there were a lot of people looking at it and saying it was an interesting model and suddenly became so big so quickly and caused such an interesting reaction in US markets.
Speaker: Well, let's dissect this a little bit.
Speaker: So DeepSeek is an AI model.
Speaker: Yes.
Speaker: And in terms of its performance was coming close to US products, but in a much cheaper way of getting there.
Speaker: Essentially, it found a more efficient way of coming to a very similar set of results.
Speaker: So it used much less of the processing power that people felt you needed to do a lot of things in AI.
Speaker: And the idea behind DeepSeek is it can do it with less.
Speaker: So, yeah, you had this very interesting response in the US.
Speaker: And I think two things about that event.
Speaker: The first one is maybe it wasn't so much DeepSeek itself that was interesting, but the market response.
Speaker: there are going to be more deep seeks, whether out of China, whether out of Europe, whether out of the US.
Speaker: There is such an incredible rush to try and generate profit revenue from this incredible new world.
Speaker: You know, there's an awful lot of brainpower going into it.
Speaker: So we're not overly focused on deep seek itself.
Speaker: It's a very interesting case study, very interesting model.
Speaker: There's going to be a lot more.
Speaker: And there have been since.
Speaker: And we've seen other Chinese companies and other U.S. companies say, oh, hey, wait a minute, we can do similar things.
Speaker: So I think the first thing is the market response was interesting because it suggests, oh, actually, there's more than one way to do this or there are more efficient ways to do this.
Speaker: And the second thing, you know, very quickly that the story in the papers has become, oh, you know, China's rediscovered its ability to innovate.
Speaker: Which is interesting for those of us who've lived in and around China for the last 20 years.
Speaker: China's always innovated.
Speaker: You know, we could sit here and wax lyrical about the high speed rail system that we've travelled on.
Speaker: We could talk about how China essentially drove down the cost of solar and is making the possibility of the energy transition even viable because of their engineers and what they've achieved.
Speaker: hey, let's talk about electric vehicles and what they do with battery technology and how very few people seem to be able to match their ability and the amount of engineers.
Speaker: Pharmaceuticals now.
Speaker: Pharmaceuticals now increasingly.
Speaker: So DeepSeek's almost like a trigger of, oh, hey, you know, we were talking earlier.
Speaker: Hey, gosh, not only is the property thing not getting worse, not only is the consumer not disappeared, they're just different.
Speaker: And now you've got a reminder, you know, this is a country that turns out 10 million engineers a year.
Speaker: they're going to come up with interesting things.
Speaker: And I think DeepSeek kind of almost took some people out of a slumber.
Speaker: It was a reminder of the technological prowess of China in many ways.
Speaker: And let's put this a little bit in a context because if you look at a Chinese equity market over the last five, six years, we had a giant kind of equity, sort of a tech valuation boom, right?
Speaker: There were big companies.
Speaker: Up to 22, yeah.
Speaker: sort of Alibaba and Baidu and Tencent and so massive companies that deflated.
Speaker: And then suddenly people kind of thought technology, China, what is there?
Speaker: But probably forgetting that all the while this enormous sector was continuing to evolve.
Speaker: But the shift, the focus had shifted to the U.S. and in particular seven U.S. companies, right?
Speaker: It's a magnificent seven that everybody chased.
Speaker: And the Magnificent Seven and very interesting companies doing very interesting things.
Speaker: But actually, the HS Tech, which is the index that tracks those large mainland Chinese technology companies listed here in Hong Kong, the HS Tech, a lot of people were saying, oh, it's outperformed the Magnificent Seven this year.
Speaker: Actually, it's outperformed on the last 12 months.
Speaker: So I think this is exactly right, that DeepSeek was...
Speaker: It's become a very interesting reminder to what China can do when companies, and let's not deny it, and when the government wants to go in that direction and the companies do so, this is a nation capable of incredible inventiveness.
Speaker: And we know that.
Speaker: So Elliot, there's a fascinating story, of course, we have this complete reversal in the appreciation of the Chinese equity market, the IA investors over the last 12 months.
Speaker: But it's also really a reminder of how equity markets in general, or financial markets in general work, isn't it?
Speaker: You go from extreme pessimism where you just, I don't want to own any of this.
Speaker: And within a matter of a year, people can completely change their perspective, even if
Speaker: the facts on the ground haven't necessarily changed all that much.
Speaker: It's the same companies.
Speaker: It's the same earnings growth.
Speaker: It's the same general environment and uncertainty.
Speaker: And yet the perception has changed from...
Speaker: Well, it's not getting worse, so I suddenly like this.
Speaker: This is, I think, reminiscent of some of these extreme views that you and I have seen over the years in Asia.
Speaker: Too long, Fred.
Speaker: Too long.
Speaker: But I remember we were sitting actually during the global financial crisis.
Speaker: It was sort of, I think, late October 2008.
Speaker: October 2008.
Speaker: Yeah, I remember it.
Speaker: Yeah, I remember it really well.
Speaker: On the floor here in Hong Kong at HSBC.
Speaker: And we had a giant wall with all the global equity indices.
Speaker: Do you remember Europe was down, I think, 7% or 8%?
Speaker: We were sitting there watching Europe open down 8% that day.
Speaker: Tick down, tick down, tick down.
Speaker: I mean, wow.
Speaker: And so every market had opened down 7%, 8% and another wave of just pessimism.
Speaker: And there too, you know.
Speaker: March the next year.
Speaker: March the next year.
Speaker: It never looked back for a year or so.
Speaker: Yeah.
Speaker: It's really psychology.
Speaker: It's psychology.
Speaker: It is a large part.
Speaker: I mean, of course, there is a great reduction in earnings and lessons needed to be learned after the financial crisis.
Speaker: You know, the market is very good at seeing through.
Speaker: The market is very good at looking to the other side of these events and doesn't, and this is really important, doesn't necessarily need to see the data to start pricing it.
Speaker: So, Elliot, here's what I grapple with.
Speaker: I think you're right.
Speaker: The market is very rational, is surprisingly good at pricing turning points, having this cold calculus about what's about to happen or what should happen.
Speaker: The problem as an individual investor is you often get caught up in the psychology of, you know, it could get a lot worse, it could get a lot better.
Speaker: Because I remember sitting on a train with you in the summer of 2008.
Speaker: And of all places, it was somewhere between Pyongyang and Beijing.
Speaker: Because after we had a holiday together in North Korea, of all places.
Speaker: And we had a discussion about markets and we thought this was the bottom.
Speaker: The summer of 2008 was surely the bottom.
Speaker: It couldn't get worse than this.
Speaker: And sure enough, we came back and it did get a lot worse than that.
Speaker: So it works both ways.
Speaker: It definitely works both ways.
Speaker: And you see this over and over again.
Speaker: And the pain lasts longer than you think it should.
Speaker: By the way, it's the same for bull markets.
Speaker: The tops last longer than is rational.
Speaker: So there is that period.
Speaker: You're right.
Speaker: There is that sort of clearing period at the low that sort of wipes out the people who want to be confident at the bottom and sort of sucks in the last few people at the top of the bull market.
Speaker: And hey, that's why markets are interesting.
Speaker: That's why we're all still here.
Speaker: That's why there's humans still investing and doing things because they always confound expectations.
Speaker: Always.
Speaker: And for all the technology and all the AI and everything else, it always comes down to psychology.
Speaker: Anyways, Elliot, it was wonderful having you for the first time on our podcast.
Speaker: I think we should wait.
Speaker: We should do it before we have another 200 episodes to bring you back before that.
Speaker: So thanks for joining us.
Speaker: And hopefully we can talk to you again soon here on The Banyan Tree.
Speaker: I'd love to.
Speaker: And that's a wrap for this week's podcast, ladies and gentlemen.
Speaker: A pleasure having you with us under the banyan tree.
Speaker: We'll be back again same time next week.
Speaker: In the meantime, you can catch up with the top stories on global economics by tuning into The Macrobrief, our sister podcast from HSBC Global Research.
Speaker: From all of us here in Hong Kong, bye for now.
Speaker: Thank you for joining us at HSBC Global Viewpoint.
Speaker: We hope you enjoyed the discussion.
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