While China is facing an economic slowdown, and consumer and business confidence has weakened, signs of stabilisation could point to more positive signs ahead supporting a potential outperformance of the nation’s listed infrastructure operators, according to 4D Infrastructure investment director, Tim Snelgrove.
Domestic activity on toll roads and domestic air travel are already above 2019 levels, while the easing of COVID-19 travel restrictions and the introduction of greater airline capacity within key travel markets should positively impact traffic in China and for global airport operators, according to Snelgrove.
He says other sectors could also benefit from the nation’s stronger economic growth compared to developed nations.
“Despite the economic slowdown, infrastructure spending has proven to be a bright spot - encouraged by new directives from the politburo, local Chinese governments have accelerated the pace of borrowing for infrastructure investment in an effort to offset weakness in private business investment and property,” Snelgrove says.
“As an asset class, infrastructure has a number of unique characteristics that makes it an attractive option for investors across all points of the economic cycle. Given the huge population in China and its ongoing evolution, we believe it remains an important destination for investors,” he says.
“Despite the recent dip in market sentiment, China’s middle class is huge and still growing, and changes in spending and consumption patterns will have significant implications for infrastructure investment for decades to come as government meets demand and builds the infrastructure needed by its population.”
The economic recovery in 2023 has stalled, and despite some recent positive signals, Chinese equities are trading at multi-cycle low valuations.
“Some stocks are trading as if the re-opening never happened. The expectation of a pent-up consumption wave has been replaced by a more cautious household approach, marked by a higher savings rate. The drivers of low household confidence and spending are mostly related to the wealth effect of a deteriorating property market.”
The property sector in China accounts for 30 per cent of GDP and 70 per cent of household wealth. House prices have been falling, with unofficial sources indicating 15 per cent to 25 per cent drops in some cities. Any further signs of stress in the property market will have a detrimental effect on consumer confidence, according to Snelgrove.
“However, the Chinese government should realise that stabilising the property market is crucial to shifting the consumer mindset towards a more spending-oriented approach, not just in the short term, but as part of a long-term transition from heavy investment and export-driven growth to domestic consumption and value-added sectors. The government is therefore prioritising boosting consumer sentiment and spending over pursuing indiscriminate growth, especially given the significantly higher Chinese government debt compared to previous periods of stimulus.”
In terms of individual sectors, he says the recovery in travel demand in China has been mixed.
“Domestically, flights are now above pre-pandemic levels, while, as at October, international travel is under 60 per cent of pre-pandemic levels. The slower-than-expected international recovery is due to the slow easing of visa and group tour restrictions.
“Flight capacity has also been patchy regionally, and highly political, with capacity negotiated bilaterally between countries. However, we believe the demand is coming back. As consumer confidence increases, we expect an increase in Chinese tourists in European and Asian airports. European operator, Fraport, highlighted that there had been a steady recovery since re-opening from 18 per cent of pre-pandemic levels in January, to 52 per cent in June, with expectations this will continue to ramp up in the second half of the year and return to 90 per cent of its pre pandemic level of business.”
In the Chinese toll road sector, he says network traffic is now exceeding pre-COVID levels at 100 per cent to 120 per cent. Some government policies on consumption are also benefiting the sector, such as reducing the tax on passenger vehicles and increasing subsidies for electric vehicles, according to Snelgrove.
“The gas sector has fundamentally been slower to rebound. There has been some loss in volume growth given the slower economic activity, especially for those exposed to factories and manufacturing regions. There is also an impact from the slowing property market and a loss of new-connection revenue. However, the market has completely over-discounted what we believe to be short-term shocks, and the sector is currently offering very attractive value.”
Within 4D’s investment universe of core infrastructure, including airports, ports, toll roads and utilities, 4D believes that sell off has been overdone.
“We continue to be highly selective in our portfolio and continue to invest on fundamental value and assess investment opportunities that are beneficiaries to the Chinese economy, both directly and indirectly.
“At 4D we have an integrated process for investment, whereby country risk analysis is combined with individual stock analysis in a single analytical cycle. An investor willing to capitalise on the opportunity via direct investment in China is currently accessing this theme at very attractive valuations, both on an absolute basis - compared to their developed peers - but also relative to historical ranges,” Snelgrove says.
“We expect further outperformance as the market starts to recognise the disconnect between share price and fundamentals.”
The 4D Emerging Markets Infrastructure Fund returned 19.55 per cent over the 12 months to 30 June 2023, compared to the absolute benchmark’s 15.43 per cent1.
