No Gain Without Pain: Why China’s Reform Push Must Hurt Investors

The new model appears to place common prosperity, as President Xi Jinping has put it, ahead of helter-skelter growth, investors say.

According to some analysts, it is the most significant philosophical shift since former leader Deng Xiaoping set development as the ultimate priority 40 years ago.

“Chinese entrepreneurs and investors must understand that the age of reckless capital expansion is over,” said Alan Song, founder of private equity firm Harvest Capital. “A new era that prioritises fairness over efficiency has begun.”

Bankers and investors say it was heralded last November when regulators torpedoed the listing of Jack Ma’s fintech Ant Group, publicly clipping Ma’s wings and burning the global funds that had paid up, anticipating a slice of the world’s biggest float.

In the nine months that have passed since, developers, commodity speculators, crypto miners, other tech giants and, lately, tutoring firms, have all faced radical rule changes or had regulators aggressively poring over their businesses.

The Hang Seng Tech index, launched with fanfare last July and comprising internet darlings-turned-gargantuan blue chips such as Tencent and Alibaba, has cratered 40% since February to record lows.

“The spectre of state intervention into controlling the private sector has created a crescendo of panic-selling,” analysts at investment bank Jefferies said in a note. “The authorities are attempting to reduce social inequality while clamping down on excessive price rises that are undermining the cost of living.”

Zhaopeng Xing, senior China strategist at ANZ, said the raft of policies, unveiled around the Chinese Communist Party’s centenary, underscores the political will to reinforce the Party’s roots.

“These policies were announced to reflect the Party’s progressiveness” and appeal to the masses, Xing said. “They send a message that China is not a capitalistic country, but embraces socialism.”

The messaging in the months running up to the Party’s July 1 centenary was also unequivocal, analysts say. “Common prosperity” is the over-riding long-term goal, Xi said early this year, and China’s development should be centred on people’s expectations of better lives, urban-rural gaps and income gaps.

China’s State Council Information Office did not immediately respond to a request for comment.


Investors have so far responded with alarm that tipped on Tuesday towards panic. They dumped health stocks in anticipation the sector will be next in the firing line, even as the property and education sectors reel.

Housing, medical and education costs were the “three big mountains” suffocating Chinese families and crowding out their consumption, said Yuan Yuwei, a fund manager at Olympus Hedge Fund Investments, who had shorted developers and education firms.

“This is the most forceful reform I’ve seen over many years, and the most populist one. It benefits the masses at the cost of the richest and the elite groups,” Yuan said.

The free-falling share price of ride-hailing firm Didi, which found itself in regulators’ sights days after its New York listing, has raised questions about China’s entire future engagement with foreign capital markets.

Credit risks are also climbing in a country that is still recovering from COVID-19 as authorities appear comfortable allowing state-linked or very large corporations – previously seen as protected species – to teeter towards default.

“Over the past 20 years, Chinese authorities could turn a blind eye to some illegal business practices, tax evasion or wrongdoings, because the economy enjoyed robust growth,” said Ming Liao, founding partner of Beijing-based private equity firm Prospect Avenue Capital.

Now that the economy is slowing down “the question becomes how to divide the cake. Thus the need to weigh fairness against efficiency.”

NEW PARADIGMAs the Party prepares for a 20th national congress, which will decide if Xi remains its general secretary for an unprecedented third term, analysts think he will press on with his pillars for reform, one of which is a thriving middle class.

The Party seems determined to emphasise its socialist roots and contrast them against a perception of social problems in capitalist centres such as Hong Kong, they say.

Investors also say that the resilience of exports provides a buffer for policymakers to build a new growth leg from domestic demand and head off dissatisfaction over inequality.

Although household income has outstripped economic growth, both are slowing and, according to research published by the Institute of International Finance (IIF), a trade association for banks, household earnings are still below pre-pandemic levels.

The top 10% of families in China account for 47.5% of household wealth, the IIF estimates, while a 2019 survey from recruitment firm 51job Inc showed nearly 40% of parents spent 20-30% of their income on children’s education – seen as unsustainable.

“The old era has ended, and a new epoch has begun,” said Jack Liu, a veteran maths teacher at Gaotu Techedu Inc, one of the firms upended by education reforms.

“For many tutoring companies, a teacher’s ROI (return on investment) is the north star metric… In the future, industry players must fully understand government policies, and unify the interest of individuals, companies, and the country,” he said.

Foreign fund managers say that they are holding their nerve, but changing tack. Citi Private Bank said this week in a note it was increasing its China exposure, but seeking domestically listed companies outside the crosshairs of regulators.

Prashant Bhayani, chief investment officer in Asia at BNP Paribas Wealth Management, was likewise looking for exposure to the broad sweep of onshore equities outside the tech and education sectors as clients had questions on the crackdown.

“We’ve seen concerns, not just from North America and Europe but also from Asia, on what is the endgame on policy,” he said.

“It’s definitely a concern, in the sense that these are the areas that were doing the best out of the pandemic and have been identified thematically as mega-trends, so it’s also about positioning.”

(Editing by Vidya Ranganathan and Nick Macfie)

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