China’s economic recovery largely rests on whether the country’s consumers have recovered from the scars created by strict Covid restrictions, increased intervention in the private sector and a property slump. Recent quarterly results from global consumer giants doesn’t instill much confidence that the economy is turning a corner.
Estée Lauder
(EL), home to brands like Clinique and M.A.C, cited weak demand in China as it warned fiscal 2024 adjusted per-share earnings could fall as much as 33% versus earlier projections for a rise. It now sees sales falling as much as 2%, compared with its prior expectations revenue would grow 5% to 7%. Tesla’s (TSLA) China-made electric vehicle sales fell 11% from the year-earlier in September.
And
Yum China
(YUMC) added to concerns about China’s recovery this week, missing third-quarter earnings and revenue expectations, and warning of softening demand among fast-food customers in late September and October. Chief Financial Officer Andy Yeung in a call with analysts described the postpandemic recovery as “wavelike” and “nonlinear.”
“I was calling China’s recovery a crab walk, but I think that is probably even optimistic,” says Laura Geritz, head of Rondure Global Advisors, noting the remarks. “The fear is that this isn’t a wave, but a sign of something more sinister.”
While recent economic data has shown pockets of stabilizing, signs of an actual recovery are still fleeting, even as Beijing rolls out more stimulus.
Geritz and other fund managers see consumers in China becoming more value-oriented against a sluggish economic backdrop where youth unemployment is in the double digits and the property market is still flailing.
“We are hearing from a number of companies that Chinese consumers are trading down, favoring more value for money brands in categories such as sportswear, and food and beverage,” said Ginny Chong, senior portfolio manager at Mondrian Investment Partners.
Indeed, as China’s version of Black Friday approaches on Nov. 11 with Singles Day, Citi China Internet analyst Alicia Yap notes a preponderance of “ever cheapest” offers to woo consumers. In a note to clients, Yap said she expects another muted Singles Day performance.
Brand preferences are becoming more entrenched, especially as disposable income becomes tighter, and consumers are often trading down into Chinese brands that have been gaining share, fund managers say.
In Estée Lauder’s world of cosmetics, local Chinese brand Proya has been performing well while Huawei has been a stronger challenger to
Apple,
Chong adds. Indeed, analysts are closely monitoring just how much Huawei’s new phone cuts into demand for iPhones.
What worries investors is that both consumers and companies seem beaten up. Visits by Geritz’s team to companies in China found executives that were “meek and bleak” across sectors, a stark change from pre-COVID visits.
Howie Schwab, manager of the $2.3 billion Driehaus Emerging Markets Growth fund (DREGX), says Beijing’s raft of stimulus measures have not done much to help turnaround confidence
“These are stopgap measures,” says Schwab, who has under 20% of his fund in China, compared with the 26% average held by peers. ” Chinese policy makers are trying to address structural issues with conventional cyclical tactics and the market and these [earnings] reports are saying it’s ineffectual.”
Also making Schwab wary: the state’s increasing role in the private sector with Chinese executives having to be educated on Chinese Communist Party ideology at regular strategy meetings. Xi Jinping’s focus on common prosperity and tackling inequities may also not bode well for luxury spending, cosmetics and experiential restaurants—another potential blow to some consumer-oriented companies, Schwab says.
Schwab doesn’t rule out the possibility of a sharp bounce in battered Chinese stocks if Beijing changes its tune on stimulus or a U.S. recession pushes investors to seek markets where policy makers are already trying to engineer a recovery. But he sees any bounce as a fleeting, short-term trade as was the case last year when China eased Covid restrictions.
Indeed, at $42.11, the iShares MSCI China exchange-traded fund (ETF) is trading back near the levels of last year before the rally—a note of caution for investors looking for a bounce in Chinese stocks.
Write to Reshma Kapadia at reshma.kapadia@barrons.com
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