investment insights
February – China’s Olympic push in Year of the Tiger
Lombard Odier Private Bank
Sporting fans have been spoilt recently: two Olympics in less than a year. When the 2022 Winter Olympics kick off on 4 February, Beijing will become the first city ever to have hosted both summer and winter Games, a source of considerable national pride. We won’t see some of the outlandish sports that have featured in past Olympics, including solo synchronised swimming and pistol-duelling, but several new ‘big air’ skiing events promise thrills, and ‘mixed team snowboard cross’ threatens broken bones. The Games also coincide with China’s New Year celebrations, a major national holiday. Amid threats from Omicron, festivities will be more muted, but in a few days, the eyes of the world will be on China, and foreign journalists will be on the ground. True, these Games won’t have the usual millions of visitors. But Chinese authorities have still been doing the housekeeping.
Start with air pollution. Going back ten years or so, a visitor’s first impressions of Beijing were likely to include smog. At wealthy schools, children exercised under tents supplied with filtered air. Face masks were in fashion long before the pandemic. Beijing has since made huge progress in curbing pollution, cutting emissions from coal-fired power stations, steel and cement plants, and subsidising home-owners’ switch to gas boilers. Last week, Beijing’s authorities said the city had met national air quality standards for the first time, cutting dangerous airborne particles by 63%, figures in line with those from the UN’s Environment Programme. The push for ‘Blue Skies’ at the Winter Olympics has paid off, although not without ripple effects, including spiking fertiliser prices after recent factory shutdowns.
Hosting the Olympics is always a Herculean task, and one with surprisingly few economic rewards. A 2016 study published in the Journal of Economic Perspectives found that “in most cases the Olympics are a money-losing proposition for the host city.” Even unsuccessful bids cost money: Chicago spent an estimated USD100 million1 on its 2016 bid and lost to Rio. Countries go to extraordinary lengths to put on a show: Montreal imposed a tax on tobacco partly to fund its 1976 games. Sometimes, being the host has pushed countries to the brink of financial disaster: some economists point to the cost of the 2004 Athens Games as contributing to Greece’s 2009 economic crisis. Researchers at Oxford University estimate that on average, Games held since 1960 have come in 172% over budget, after adjusting for inflation. In 2022, Beijing faces additional hurdles: the extra expense and logistical hurdles of Covid controls, and a ban on most spectators, wiping out any potential boost from tourism revenues.
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The sheer scale of Beijing’s efforts to host the games in the midst of the Covid-19 pandemic is impressive. A “closed loop” system will keep the athletes separate from the public, avoiding the need for those who have been vaccinated to quarantine, and hopefully preventing Omicron outbreaks. They will be fitted with armpit censors to monitor their temperature; a dedicated ‘MY2022’ App will log their daily health status. Invisible bubbles have been created around every Olympic facility. While most of the events will be held at resorts well outside the city, one such bubble is in central Beijing, where a mesh of temporary fences cut it off from normal city life. Almost 20,000 Olympic staff and volunteers have already entered these bubbles to live and work.
All this goes to show that when China sets a goal, it applies the necessary will and resources to achieve it. Yet if the global spotlight is on the Olympics in 2022, the Chinese government is perhaps more focused on political considerations ahead of the Communist Party’s 20th National Congress in the autumn. In the run-up to such an important political event – where President Xi Jinping is expected to break with precedent and seek a third leadership term – stability and achieving growth targets will be key.
This has become increasingly evident in recent months. Last year macro concerns hung over China, with the Evergrande debacle, property sector deleveraging, and a regulatory crackdown on tech, gaming and online education firms. Private sector firms have now shed jobs, activity in construction and infrastructure has slowed and consumer confidence has weakened. Amid mounting evidence of slowing growth, there has been a change of tone, accompanied by pragmatic policy tweaks, most notably since December. The central bank cut its benchmark lending rate on 20 January, following several recent cuts to banks’ reserve ratio requirements. Earlier this month, Beijing said it would speed up local government bond issuance. Premier Li Keqiang has spoken of extending tax cuts, upgrading manufacturing, R&D spending, and helping-pandemic hit services and industries. A flurry of new monetary – and crucially also fiscal – easing measures have shifted China from restraint in 2021 to pump-priming in 2022. A lot of the easing looks set to be front-loaded into the first half of the year. This is, of course, in stark contrast to the direction of travel in the US. China’s easing could even offset some of the risks to global growth from Fed tightening.
Of course, risks to China’s growth haven’t gone away, not least its “dynamic clearing” strategy for Covid-19 outbreaks, with the prospect of entire cities and ports being shut down over a few cases. To date, the approach has been reasonably effective. After an initial wave affecting multiple provinces in early January, local transmissions have declined substantially to just a handful of cases in five to six provinces. Yet ordinary Chinese people remain worried about slowing growth and the high cost of living. Business sentiment has suffered after last year’s relentlessly disciplinarian policies. The Evergrande fallout is by no means over, with many vulnerable developers experiencing funding difficulties and sharp slowdown in housing demand.
Still, we believe that shoring up growth is imperative, and policy easing should help the country achieve a 5% expansion rate this year. We also remain overweight in selective Chinese assets. Although with their starkly opposite monetary policy paths, US and Chinese government yields are converging, we still like renminbi-denominated sovereign debt for its portfolio diversification and yield pick-up properties. We also see opportunities in emerging market hard currency and high yield (HY) bonds. Asian investment grade credit remained resilient in 2021 and in our view, spreads look positioned for compelling relative value this year versus developed markets. Asian HY fell -11% in 2021, its worst performance since 2008 (see chart), driven by Evergrande’s problems and China’s regulatory response. Almost a third of Chinese HY defaulted, bringing the country down from 50% to 10% of the Asian index. With higher quality names remaining and Chinese HY now largely trading at restructuring levels, we believe the market could bottom out in the second quarter, helped by significant policy easing. Non-property names could provide attractive opportunities, and other sectors, such as telecoms, technology, electric vehicles and renewables, could start to replace the dominance of Chinese real estate firms.
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Ahead of Chinese New Year, this year falling on 1 February, it is customary to clean your house, to clear out the accumulated year’s bad luck. Authorities are entering the Year of the Tiger with brooms in hand.
1 Source: Andrew Zimbalist, The Atlantic, July 2012
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