What Is The Bull/Contrarian Case For China?
I've been reading up on the history of China and their current macro situation right now. Once the clear candidate to hold the next reserve currency and become the most dominant country in the world, China has experienced numerous headwinds which I won't delve into due to the complex nature of each, but will list below with short descriptions.
1. Structural employment issues (China is a manufacturing and services based economy in terms of output, which does not match the current skill and competency bred through the education system so the young people unemployment rate is very high). Also, the one child policy mandate fucked them in terms of demographics and age curve.
2. Real estate bubble (I mean, just look at what Evergrande went through. Ya a good portion of it was idiosyncratic but they signified a larger bubble which burst shortly after)
3. Mishandling of COVID-19 (The frequency of closures and reopening did not help in the least bit)
4. Chinese companies majorly shitting the bed in the markets (Again a lot of this was idiosyncratic but part of a larger downturn due to mismanaged growth potential, shady accounting and business practices, etc etc.
There are more that I'll add if this thread gains traction but getting into the question, what is the bull case for China? How do they reinvigorate the economy, and continue on the growth they've been compounding for the last few decades?
I understand I may be missing pieces of the puzzle, any help would be greatly appreciated.
Bump
Hard to identify a bull market for China. Most of your points are largely correct. Would also add that the broader western political sphere has become increasingly hostile to Chinese product dumping. I think the Chinese “Miracle” has largely passed, and the CCP will turn to greater information control and nationalist saber rattling in order to maintain control of an aging populace.
Historically as much as ~30% of China’s GDP growth has come from real estate. Most of the largest developers (Evergrande, Country Garden, etc.) have gone under, meanwhile an estimated 80mm apartments (enough for the entire population of Germany) sit empty and the urbanization process has largely been completed, meaning significantly less demand in the future, which not only impacts GDP growth, but severely imperils local governments, which depend on land sales to developers in order to balance the books. This also impacts the chinese populace’s primary investment approach (both directly in housing prices, but also via trust products from the likes of Zhongrong, which has recently defaulted).
At the same time, China’s replacement rate has hit an all time low, its youth unemployment rate has hit an all time high (CCP stopped reporting), while its population gets dramatically older.
The expectation was that consumer spending would eventually replace real estate and FDI related growth, but so far that has not occurred. If growth were to happen, it would be dependent on a broad cultural shift in how the Chinese people spend their money, coupled with reversal of recent deflation trends
This is a long post, and is more a sociological, anecdotal personal experience. It’s a bit more for me to memorialize my thoughts of my trip before I forget them.
I just got back from a vacation to China. The last time I was back as a tourist was in 2006, almost 20 years ago. The country and its people is vast, fascinating, nuanced, rich in national and regional culture. As a history lover, it reminded me of Rome in the sense it’s called the Eternal City, China seems like the Eternal Land.
I visited three major cities with populations over 8 million each, took trains and planes, and frequented mainly tourist areas. I saw maybe ten (10) white Westerners (I’ll pitch the word “laowai”) my entire trip which was far different compared to 2006. During my 2006 trip, I would recite in my head “laowai” “laowai” in my head whenever I saw Westerners, and I saw many. It was really strange today, but I think heavy prior COVID restrictions and geopolitics has created a big shift away from China. The economy that caters to foreigner travel, seems in crisis, think of global hotel chains (also international schools might be hurting). English language tour guides might be somewhat ok - for the wrong reason: AliPay (mobile payments app) and Didi (“Uber” in China) are essentially must have apps because nobody carries paper money (except me the tourist) and my Apple Maps did not seem to work, so it was hard for independent travelers like me to navigate (I’m usually the walker type, walk 20,000 steps a day when checking out cities). I was lucky that I was with locals, but whenever I tried to pay the bill for a meal or boba, the AliPay app friends win. Still businesses will take your cash and give change - amidst rapid change is still the memory of how the world was. And the barriers of obtaining the apps for foreigners is a problem that needs to be addressed. ie a Chinese bank is needed for AliPay signup.
While I was there, seeing such few foreigners, I felt special seeing this world with my own eyes. As friends crowd around in Japan partially due to the favorable exchange rate, I had China “to myself.”
The contrarian business thinker in me started thinking. Ok, Beijing is expensive, more like San Francisco pricing to me (for nice things), and it’s near the seat of power of a very conservative government. But outside, in mega cities further and further away from Beijing, seemed to have a more relaxed and fun vibe. This trip’s itinerary was Beijing, Chengdu (pandas and hot pot!) and Xian (the start of the ancient Silk Road).
There is a more militaristic and nationalistic vibe today compared to the mid-2000’s. You see it in movies, tv, posters for military camp for kids (which it’s not bad to toughen up the softies). And Hanfu, or traditional regional Chinese dress for picture taking for socia media, was everywhere at the tourist areas. Both a sign of great pride in culture, one’s social media, and really made the streets come alive. Lot’s of pretty girls in traditional dress.
So, contrarian me, there seemed to be some price deflation due to slowing demand. Although that didn’t matter too much because we ate at some very exquisite places. Starbucks in China is better than in the US. I even saw a SBUX with a bar in Chengdu. No tipping culture was a relief (btw tip your Subway sandwich worker, they seem to work harder than bartenders). For a brief time, I thought a digital nomad living in China would be awesome, until I saw the prices of international school for my kids ($25K - $50K per year per kid) and I thought maybe not.
We are in some kind of a second turning - if the first was in the post-Deng Xiaoping era of the 1980’s, 90’s - then this is a new turning. For people like me, with Western experience and abilities, the lower hanging fruit of being useful is largely gone unlike in the first turning there was demand for internationalism. This new turning coincides with the population transitioning from the older generation and younger. The old generations born post-WWII were shaped greatly by the historical happenings, particularly the hardships of the Cultural Revolution of the late 60’s and 70’s (think closing all schools for several years, moving city kids to work in agriculture in the middle of nowhere, Revolution fever, violence and suffering), and really created the foot soldiers for the makings of China’s economic rise and strive for the good life. The T word from the late 1980’s is still taboo. That generation looked up to the West to try to collaborate and catch up to them and oversaw the opening of China to the world - an incredible feat. As they age, the newer generations have little or no life exposure to the chaos of the past. You can see a more assertive, proud sense of national identity and global standing.
While I was working out at the gym at the Chengdu Hilton I was watching the NBA Finals and got to chatting with a fellow gym-goer who was Chinese, who got the hotel staff to turn on the sound to the tv of the game. I figured he’s a NBA fan and spoke some English so I asked what was his favorite team, it was the Lakers. He asked what was mine, and I said I was from SF so Golden State. He replied, Stephen Curry, and I said yeah.
Anyways, amid the headlines, big geopolitical great game, the flashing red signs of decoupling - yet doubling down on China by some Western brands - there will be money to be made, friends to be made, in China if you can understand China. Eternal Land - on a people to people level, there is much to gain between the West and East. I was asked what was my Western observation of China. Of course I was diplomatic, but I believe I said what I really felt, that China is a beautiful land and people, and I don’t think there will be a war between the US and China, it would be too devastating. The everyday person does not want war. A parent like me with young children, a son, doesn’t want war now or decades into the future. I think there’s alignment.
China’s government has done a very good job of social control. In the mid-2000’s the roads were a mess with drivers doing whatever they want. Today, with cameras everywhere, the normally aggressive taxi driver makes sure his front seat passenger has their seatbelt on as we started our ride. No seatbelt, he will be punished with a ticket long after you leave his taxi - he pays. Run a red light or speed, you’ll get a ticket in the mail the next day (seems like aggressive weaving through traffic lanes is ok). It is a remarkable, omnipresent way of control that seems too tight for my American standards but along the gradient of where we all are heading.
This post-COVID, post-decade of Xi period, right now feels transitory to what, I don’t know. But if we want to see peace and a positive outcome, I think we need more people to people engagement, not less. That’s what individuals can do, irrespective of what our governments do. Even if supply chains derisk, tourism and study abroad educational opportunities can still prosper in my opinion (am I right or wrong, we will see). That’s where I think I see a market bottom with China, right now.
appreciate your perspective. the place I stop short is access to/liberalization of capital markets, investor protection, transparency/confidence with corporate reporting, and maybe it's my bias but I feel like we're years and years away from there. I would never bet against China as a people, they've arguably got the best staying power at scale, but as an investor I worry that it will be hard to make a long term (like a Charlie munger one decision stock) play on them because after all, they are a communist country without open capital markets
that said, at some point it will become too cheap to ignore, despite bad news
This is put amazingly and falls in line with what I think about China on a geopolitical/cultural level. If we just took more time to understand the Chinese people and government instead of trying to denounce them as information stealers, we would really be able to slowly bridge that gap and see how similar our countries are becoming, but more importantly, be able to appreciate our differences. I think America trying to meddle with China is disrespectful to the Chinese people, especially when it comes to their ideals and government, because their country has been built out of so much strife, hardship, and now deep rooted pride, that to just say “oh why are you communist that system doesn’t work” is brutally ignorant. Ray Dalio goes into this precipice a lot more (and a lot more eloquently than I put it), but again, very well written.
China's an interesting one - am very much looking forward to reading other people's bull cases
Personally, I've always been a little bit skeptical regarding the longevity of Chinese economic dominance
A close friend of mine (now retired) worked for a major bank for 30+ years, and did a lot of deals in China, as well as managed a team out there at one point
His interpretation of China's ascendancy was always a little pessimistic: in his view, the Chinese economic system (from their method of scaling, their relationship with other geographies, and even their approach to accounting) is fundamentally different than the so-called "Western" approach to finance, and in some cases outright incompatible
He was very old school, but his take was that China is uniquely self-serving in its approach to investment and foreign dealings, and only opened its economy in order to tap Western markets for capital
From this perspective, and after years of increasingly centralised control following a period of exceptional growth, I suppose its unsurprising the country - having now hit a stumbling block - is struggling to reinvigorate itself
Naturally, its recent political moves haven't exactly endeared it to foreign investors either...
Think one thing people aren't properly realizing about China is their position in the EV supply chain. With EV's and batteries in general rising in demand China is in the perfect position to grow hugely based of this market. In particular they control nearly 80% of the rare earth element market which is key for battery technology, they then have large companies along the entire supply chain all the way to EV's such as BYD.
In short if the West is going to continue pushing green technology it's likely that China will massively benefit from the correlated higher demand for REE's and batteries/EV's.
However I would argue that the structural headwinds in particular (demographic and rural urban divide) likely outweigh this potential benefit.
are EVs actually rising or is production of EVs rising? every car lot I pass (I live in a growing area of the USA with good EV infrastructure) has way more EVs sitting with sale signs/promotions and my friends in auto/auto marketing all say their biggest issue is moving EVs, people just don't want them to the degree forecasted
I foresee a day of reckoning with EVs personally, but curious if I'm missing some data point you're privy to that I'm not
The main point I'd make about EV's is that for one Chinese companies are doing it much cheaper and potentially better than anyone expected partially due to the massive subsidies they receive (though new tariffs may somewhat counteract this). Also if the green agenda is to continue being pushed we will be forced to eventually completely move to EV's if we want to stop extracting oil. In theory this means at least in the long term EV's should experience strong growth especially as China makes them increasingly affordable.
I have built my career on China. I was part of a private equity fund between 2007 and 2010 that focused on state owned enterprise privatization. I continue to live in Hong Kong, but my career has tilted away from China as it is no place for a laowai anymore.
Personally I don’t have a bull case to sell you because I don’t believe in such a case myself. However, I think the notions of collapse are highly overblown as well.
Firstly, China continues to be the worlds second largest economy. Across all areas of science, technology, and business it continues to be one of the most important nations globally with great influence. The very economies of scale of China will continue to make it competitive in multiple sectors - esp. manufacturing.
Secondly, cultural traits (ie. raw human capital). China graduates more engineers than anyone else. Chinese people are highly education-oritented and commercial. Chinese people are inherently entreprneurial and tend to thrive wherever they go globally, which to me speaks of favorable cultural traits.
Thirdly, the idea that there’s been some massive real estate collapse I believe is overdone. Yes, Chinese developers have suffered. But property prices in tier-one cities continue to hold. Liquidity is low, but other than a few forced-sellers, i'm not sure we're really seeing the selloff and price collapses that overseas media are printing.
Fourthly, on the issue of demographics, this is a long term trend - not something that’s going to affect China in the short term. And frankly, if there’s any nation that is over-burdened by a large population and could stand to see some population shrinkage, it’s China. There's not enough seats in universities, not enough seats in elementary and high schools, not enough seats on the bus or subway, and not enough arable land to feed the population without massive food imports. China is projected to hit 600M population by 2100, and I'd say that's largely a good thing. What we may see is a 2-China economic model, where the Tier-1 cities remain pricey, and everything else remains cheap, from a cost-of-living standpoint. The "countryside" will continue to provide low-cost migrant labor for the cities, and retirees (and we're going to see a lot of them) are going to retire in the countryside. Note: By 'countryside' I mean non-tier-1 cities, so I am also throwing in smaller cities, not merely rural areas.
Moreover, most of China’s problems are well known by the administration and the CCP has come up with thoughtful policies to try to mitigate impact.
But here's where I'm BEARISH.
China does NOT thrive under singular decision making. One man working with a lifelong appointment making decisions in an sycophantic echo-chamber cannot make good decisions unchecked. This worked poorly for most emperors, Mao, the Gang of Four, and I think will fail Xi as well. The genuis of DengXP is that he built a system that leveraged divergent views of China's internal factions, and pushed for the creation of a class of educated technocrats who were promoted based on meritocracy. Witness Shanghai - one of the best managed cities in the world. This helped to mitigate the negative impact of China’s central planning. I'd argue central planning rarely works well, but China kind of did ok with it... so long as there were multiple educated decision-makers. When I worked closely with Chinese government officials, I was continually impressed with their level of thoughtfulness, as managers, and the depth of their academic backgrounds.
For instance, the person writing their private equity legislation not only held a PhD in economics from an international institution, but was also a tenured professor of economics at a major Chinese university as well. when it came time to writing their legislation, he went on a trip to the United States to visit regulators, industry practitioners, and professors at major business schools. This meant that the legislation was very well thought out and nuanced. And when the legislation was enacted, it was done in a sandbox manner, and then adjusted before nationwide rollout. So while the government was clearly authoritarian and central planned, it still was enacting nuanced, and well thought out policies.
Under Deng Xiaoping , a system has been enacted by which competing factions in the CCP would be able to coexist, work together, and respect term limits. I fear that all of that distributed decision-making and productive internal competitions that had served China well have now been stripped away.
I think we're going to see a lot more central decision-making or maoist-ideological-driven decision-making nonsense which will hobble China. Witness the nonsensical response to COVID, in which China refused overseas vaccines, and locked down the economy. Here in Hong Kong, we're still paying the economic tab for the COVID shut down forced on the city by Beijing. Witness how Xi actively destroyed whole sectors that created social good - like after-school education, private education, private healthcare, etc. I could go on....
Was hoping you would chime in, you're one of the few with meaningful time there. Thanks for sharing.
Wow, thank you for taking time to give your insight on this. It is very interesting to me that Xi opted to remove the term limit and even inscribe his own Xi Jinping Thought into the constitution considering his dad and himself were excommunicated under an authoritarian dictator such as Mao. I’m going off a hunch here, but I assume the only way you think China could get back to that nuanced policy development is through some sort of big war or political happening which renders the current government body useless or incapable of guiding their people…
I don't know what happens next. China is always in pendulum swings but those swings are decades apart. It was good while it lasted, while China was on the economic-growth kick. Now it's in an ideology-driven contraction. Who knows what causes the pendulum to swing back. China is cyclical. I'm reminded by the opening lines of the Romance of the Three Kingdoms.
"The empire, long divided, must unite; long united, must divide. Thus it has ever been" (話說天下大勢． 分久必合，合久必分).
Some bull cases that is not new:
1) China’s belt and road and global south initiatives open up more markets in developing countries, thus mitigating decoupling from traditional Western economies. By betting on high population growth markets with higher disposable incomes, China escapes being dependent on slow growth, negative growth countries. While Western countries find alternatives to China via near shoring or trade with more friendly countries, both sides find what works for them.
Caveat: while growing new overseas markets takes time and is incremental, this only partially replaces the loses of losing Western business in the short term. Furthermore, this tries to protect the traditional export dependent economy and is more “doing the same” and maintaining employment than growing into higher margin sectors.
Interesting Stories: my wife went to the Canton Fair 20 years ago and while I was in a cab in SF, I mentioned to the driver that my wife was out of town at the Fair. He was Ugandan and said that his brother from Uganda was there too.
2) Robots. China masters the use of humanoid robots to do many things. A bit scary.
3) Food security and abundance. Xinjiang Province in Western China is massive and produces an abundance of food. I don’t know stats about agricultural output, but I’m going to bet that large scale agribusiness will get more and more developed.
4) senior care for obvious demographic reasons will grow in demand. Robots will be involved eventually.
I disagree. China has plenty of cheap human labor for its internal purposes. The aging of the population decreases but does not negate that. We're not in a situation that needs massive robot armies.
Everything I invest in goes the opposite way. I just put a few thousand in a fund that shorts the entire Shanghai Stock Exchange.
As long as I never pull my investment, we are guaranteed to have a Chinese century.
But if I ever decide to record my massive losses, I expect the Union Jack will be flying over Hong Kong by the next morning.
China #1
Taiwan #1!
🙏
https://x.com/corry_wang/status/1804828391750648212
This thread was pretty good imo, at least for the tech side (and differences between east/west)
Anyone read “Red Roulette” by Desmond Shum? He was a business magnate who made a fortune working for PM Wen’s family. In the book he reveals how underside deals at the highest level were done in China during the boom. Absolute page flipper highly recommend.
Nice try McKinsey
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