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China reopening bets now a ‘crowded trade’, fund managers warn

Global fund managers are becoming increasingly nervous over the durability of the rally in Chinese equities, with one-in-five of the view that it has become the market’s “most crowded trade.”

Allocations by global fund managers to emerging market equities, including China, increased for a third month in succession in February, according to a widely-watched Bank of America monthly survey which canvassed the views of 262 participants who oversee combined assets of $763bn.

Chinese blue-chip stocks in Shanghai have risen 14 per cent since the start of November as investors warmed to President Xi Jinping’s decision to drop its economically disruptive zero-Covid policy.

But fund managers have become concerned about the rapid increase in the popularity of Chinese stocks, a potential warning sign that momentum could flag.

It was the first time a ‘long China equities’ position featured as the most crowded trade in the survey’s history, which dates back to 1985.

The reopening of the Chinese economy is expected to push up inflation globally, adding to the uncertainty over the outlook for monetary policy in the US and Europe.

Just over two-thirds of the survey’s respondents said they believed that inflation would rise as a consequence of China reopening and the biggest ‘tail risk’ for fund managers was that inflation would stubbornly remain “higher-for-longer”.

On Tuesday the US consumer price data was higher-than-expected, increasing investors’ concerns that the Federal Reserve would have to raise rates further.

“It is clearly good for global economic growth that China’s economy is reopening but if this does translate into higher inflationary pressures, as we have seen on other parts of the world during the post pandemic recovery, then that could pose problems for central banks [outside of China],” said Michael Hartnett, chief investment strategist at BofA global research.

The BoA survey found that a net 46 per cent of fund managers had moved to an “overweight” allocation in emerging market equities in February, helped by increased optimism about the outlook for the Chinese economy and growing confidence that the rise of the US dollar has peaked.

Some strategists argued that the rally in Chinese equities still had further to run. Société Générale estimates that the Shanghai market is trading on a price to earnings multiple for this year of 11.6 times, with earnings growth forecast at 18.8 per cent, the bank found. That compares to a multiple of 12.4 times and earnings growth of 6.7 per cent for emerging markets.

Pramol Dhawan, managing director at Pimco, the US fund manager said valuations for emerging markets were cheap compared with history and that emerging markets were “under-owned” as an asset class following big investor withdrawals during 2022.

“We are becoming increasingly positive on EM more broadly and select EM local debt in particular,” said Dhawan.

Robert Buckland, chief global equity strategist at Citigroup, said that cash-rich Middle Eastern sovereign wealth funds could also stoke the rally in China.

“This is a good time for energy producers to invest these riches given their purchasing power in financial markets has risen sharply. Petrodollar investors will use their riches to cement long-term economic and business relationships, most notably with other emerging markets,” he said.

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