Some market watchers have been expressing optimism due to what appeared to be improved US-China relations following the APEC summit. But according to J.P. Morgan Private Bank, there is no clear correlation between markets and geopolitics.
The recent meeting between US President Joe Biden and China President Xi Jinping was viewed positively with some market watchers forecasting better days ahead for geopolitical stability and, therefore, market performance. But according to J.P. Morgan Private Bank, it is not clear that the two are actually correlated.
«Following the APEC meeting between Presidents Biden and Xi, investors are asking whether improving relations between the two countries can spark a market turnaround,» said Alex Wolf, Asia head of investment strategy for the American private bank in an investment note. «From an investing perspective, it’s not apparent that improving relations are sufficient for a turnaround in offshore China equities.»
Steady Flows
According to Wolf, there are two ways to assess the impact of geopolitics on Chinese equities: flows and valuations. On flows, there have been $130 billion of global investor flows invested in Chinese equities since the first quarter of 2020. Outflows have only recently commenced with approximately $10 billion.
«It is notable that US-China relations have consistently deteriorated over this period but it did not coincide with material outflows,» Wolf said. «The surge of inflows during Covid followed by muted outflows raises the question of whether geopolitics have changed investor positioning, and if investor positioning hasn’t changed it challenges the view that a geopolitical improvement could drive significant inflows.»
Reflective Valuations
On valuations, there is more merit to the possibility of correlations with geopolitical risk. When analyzing the valuation difference between onshore and offshore Chinese equities, there does appear to be a discount in the latter when tensions eased.
«There is some evidence that offshore equities fell relative to onshore around risk-off events suggesting that geopolitical factors do have some impact on offshore valuations within a range,» Wolf commented, though he noted that the the onshore premium is relatively stable.
Preference for Onshore
«[W]e continue to advocate a range-trading strategy for China equities until we see further signs of economic improvement, more policy clarity, and easing of geopolitical tensions. We prefer onshore over offshore China on a 12-month basis due to less exposure to global sentiment and valuation risk, as well as supportive domestic policy.»
