Investment Strategies

A tale of two Chinas: one old, one new

Scrutiny of the country's market volatility reveals an economy that is moving in opposite directions

Jun 5, 2016 @ 6:00 am

By Monique France

To the casual observer, headlines about China over the past year suggest doom and gloom. Those who take a deeper look, however, will find a divergent storyline comes to light: China's economy is moving in two different directions.

Earnings releases from Chinese companies for 2015 suggest that, broadly speaking, companies in the energy and materials sectors had negative earnings growth for the year, while companies in the information technology and consumer discretionary sectors registered strong, positive earnings growth during the same period.


We believe the earnings disparity between sectors is evidence of the secular change that China's economy is undergoing: New China, with its innovative companies and focus on middle-class consumption, has been prospering in spite of decelerating GDP growth. Old China, dominated by state-owned, heavy industries, has been slowing down.

One result of the negative outlook on China has been high stock-market volatility. We believe that volatility will remain a feature of the Chinese market through 2016 and beyond. Nonetheless, we have a high level of conviction that amid continued market volatility, further opportunities for value creation can continue to emerge in China's new economy, especially from companies that are innovative, have sustainable competitive advantages and operate in a relatively underpenetrated industry.

We are of the view that the new economy in China, driven by the increasing consumption of a growing middle class, will continue on its path of transformational growth, and this evolution will have far-reaching implications for investors with a risk appetite that can withstand the aforementioned market volatility and who understand the value of having a meaningful allocation to emerging markets over the long term.

An expanding and wealthier middle-class population embodies New China. The middle class in China now makes up more than 40% of China's population, up from 27% in 2010.


Rising incomes support the growth of China's middle class. The average annual wage of an urban household grew at a compounded annual rate of 13% from 2005 to 2014. My firm expects the upward wage trend to continue as the economy shifts from low-wage manufacturing and export-oriented industries to higher value-added service and high-tech industries.

Personal income shapes the individual consumer's spending decisions. The Chinese consumer's spending patterns are fueling enormous opportunities in certain sectors and markets. Importantly, with the advent of the internet and mobile devices, many consumer trends are not only accelerating but experiencing vast changes.

One such change is the rising allocation of consumer purchases to discretionary items. Within discretionary spending, there is an increasing shift from luxury goods toward spending on “experiences” and a better quality of life through purchases in technology, health care, recreation and travel.

Nearly two-thirds of the growth in Chinese consumption is attributable to consumers under age 35, who are tech-savvy and highly educated.


E-commerce is a prime example of a flourishing and relatively untapped New China sector. China already has surpassed the U.S. as the world's largest e-commerce market, and accounts for over 40% of global retail e-commerce sales, even though online retail in China is still in the early stages of secular growth.

As China continues to rebalance its economy from fixed-asset investment to services and consumption — from Old China to New China — these newer industries should increasingly drive economic growth. Although the path may be bumpy at times, we believe this significant transition will continue to present enduring and rewarding investment opportunities in New China.

Monique France, CFA, is a client portfolio manager at Mirae Asset Global Investments in New York.


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