Mixed Outlook for Emerging-Market Assets Following China's Reopening

Investors around the world are turning to China's reopening as a way to protect themselves from a potential US recession, but there is a growing concern that the effects of this could be different depending on the type of asset.

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Stocks are likely to benefit from the current situation, as it could lead to an increase in consumer demand, better corporate cash flows, and a rise in trade volumes. Currencies, on the other hand, may suffer due to the potential for reduced real yields caused by inflation, a decrease in China's current account, and a delay in the Federal Reserve's policy shift. Bonds may experience a combination of positive and negative effects.

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The Chinese government's decision to relax the Covid Zero policy and provide stimulus to stimulate economic growth has had a positive effect on the Hong Kong-listed Chinese stocks, pushing them to their best start to a year since 2006. The yuan has also reached a six-month high and bonds have seen a third consecutive monthly rally. This has had a ripple effect across emerging markets, with the Thai baht, South African rand, and Brazilian stocks all experiencing gains. Predictions suggest that the second-largest economy in the world could grow by 4.8% in 2023, in comparison to the US and European Union, which are projected to grow by 0.4% and 0.1% respectively.

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Galvin Chia, a currency strategist at NatWest Markets in Singapore, believes that the reopening of China will be the primary factor in determining the sentiment of emerging markets. He believes that this will have a positive effect on regional economies and global commodity suppliers. Additionally, he believes that the fact that China is on the rise while the US and Eurozone are on the decline will partially offset the decrease in demand.

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Exchange rates in emerging markets have had their best start to a year in decades. This is a positive sign for the global economy and could indicate a strong year ahead.
Stocks and currencies from developing countries have had the most successful beginning to a year since the 1990s, and bonds have seen the most impressive growth in more than 10 years. Investors who had been avoiding China due to the pandemic are now returning to the market. GAMA Asset Management became optimistic about emerging markets in the past month, and Fidelity International, which had been pessimistic for the majority of the past year, is now favoring China and Latin America.
Rajeev De Mello, a global macro portfolio manager at GAMA, expressed his excitement about China's pro-growth policies. He noted that Taiwan, South Korea, and Malaysia will likely benefit from increased Chinese demand for goods, while Chile, Brazil, Indonesia, and South Africa will benefit from China's demand for commodities. Additionally, De Mello pointed out that the opening up of international travel will be a boon for destinations close to China, such as Thailand.

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Furthermore, the decrease in factory-gate deflation in China has suggested a revival of activity, while a slight increase in consumer inflation still leaves space for the central bank to provide stimulus. Morgan Stanley anticipates the yuan's appreciation to persist and its quantitative strategists have reported that hedge funds and long-only money managers have started to search for A-share ideas. BNP Paribas SA has increased the goal for the MSCI Emerging Markets Index, claiming that policy support will guarantee China's growth above 5% this year.

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According to Morgan Stanley, the Chinese Yuan is expected to continue to strengthen as the country's Covid-19 cases near their peak.
Despite the initial optimism, some are beginning to express their doubts. As Chinese factories resume production, investors are questioning the potential for inflation to rise before economic growth can be seen. UBS Group AG believes that the yuan is overvalued and that stocks and rates payers are better investments in the context of the China reopening. Strategists led by Manik Narain have concluded that the currency has more to lose than gain from the reopening when viewed through the balance-of-payments lens.

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Some analysts are taking a more extreme view and suggesting that stagflation could be on the horizon. This is a situation where inflation is high while economic growth is low. Additionally, the Federal Reserve's potential use of Chinese inflationary pressures to remain hawkish is a cause for concern.
Aninda Mitra, a macro and investment strategist at BNY Mellon Investment Management in Singapore, noted that the reopening of the economy will put pressure on Chinese export prices and make the Federal Reserve's outlook more complicated. Mitra warned that investors should be aware of the possibility of stagflation, which could keep interest rates higher for a longer period of time even if the economy weakens.

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Since the start of November, when speculation of a reopening began to circulate, the Chinese currency has appreciated by 9%. JPMorgan Chase & Co. has declared that the yuan's carry is no longer a desirable investment and they plan to re-establish some short positions in offshore markets as the "China reopening euphoria" is factored into the market.

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Eugenia Victorino, the head of Asia strategy at SEB AB in Singapore, believes that the speed of the reopening in China will lead to inflationary pressure. She noted that a pro-growth policy in China usually results in higher energy prices, which could make it difficult for central banks to shift to a dovish stance due to the current global supply constraints.

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At this time, the majority of investors are content to take advantage of the recovery and its effects on emerging markets.
Paul Greer, a money manager at Fidelity International in London, noted that the re-opening of China is having a positive effect on emerging-market growth expectations, which is in turn boosting market sentiment across the asset class.