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Markets always crave a good story and the relaxation of China’s zero-Covid policy, with the prospect of a sustained growth rebound, already has an excellent shot at being the noisiest narrative of the impending new year.
New, wide-ranging relaxations, which were outlined by China’s State Council on Wednesday and include the possibility of home quarantine and dropping test requirements for public places, added to the picture of a nation on the brink of two profound shifts — one psychological, the other practical. Markets in the US and Europe, note commodity traders, may have underestimated how big these shifts could be for prices and inflation.
The MSCI China index, which has risen almost 19 per cent in dollar terms over the past month, began pricing in the China reopening possibility in earnest from mid-November. In what its analysts described as a “big thing”, Morgan Stanley this week upgraded China to overweight for the first time in two years.
There are still a great number of caveats to the reopening story, and even optimists guess that a version of normality will not resume until next spring. But the broad bullishness, despite all the potential for upset, has come quickly along with a tentative faith that momentum is now established.
Some strategists, who acknowledge the risk that relaxation will be uneven and punctuated with setbacks, suggest buying these dips when they occur. The big question is how much of the revaluation process has filtered into global markets, and how far the reopening story will then reverberate across them as it plays out.
In a note published at the end of last week, Goldman Sachs strategist Dominic Wilson attempts to answer those, while noting that the bank’s central economic forecast was that Chinese growth could remain very soft for the next six months before accelerating later in 2023.
The approach by Goldman hinges on an index produced by the bank itself that tracks how markets in general are pricing future growth in China. From the start of 2022, that index has undergone three short phases on the rise, but heavily declined overall. That decline was consistent, said Wilson, with major asset markets’ steady drop in Chinese growth expectations over the next one to two years.
The trough, on October 31, was then taken as a base. According to the Goldman index, market expectations for China growth began to rebound strongly in November and remain on the rise now. Given Wednesday’s news, they may surge even more strongly in coming days.
Wilson’s conclusion on the scale of the market’s shift in growth expectations so far is that: “The renewed optimism around reopening through November implies that around 40 per cent of that shift has already taken place.”
That figure — and other similar gauges that may be produced by rival banks between now and the end of the year — looks highly significant but should be treated with caution. The implied potential upside for the many diverse asset classes affected by China growth differ widely. Goldman’s perhaps unsurprising view is that Chinese and emerging market equities are among the beneficiaries with the biggest potential to rise. Copper and oil prices are in the same bracket. The Australian dollar could also be strongly affected.
But other markets could experience less welcome effects: an accelerated expansion of Chinese growth might in theory produce an amplified impact on commodity prices, with knock-on effects. European markets, for all of the disruption and misery of high energy prices, have benefited to some extent from the fact that weak Chinese demand for gas has allowed supplies to be redirected. Speedy Chinese growth may renew the supply constraints and intensify inflationary pressure. If the inflationary pressures become sufficiently wide-ranging, current market assumptions about a pause in the US interest rate increase cycle could be in line for review.
Arguably the most striking feature of the market impact of China reopening, though, could be the speed with which it hits. Market participants have seen a rich variety of reopening processes around the world — from countries that reversed extremely hard lockdowns to those that only ever imposed soft restrictions. Markets may decide, as a result, that they do not need to feel their way on China’s reopening as cautiously as they did elsewhere, and will simply look to the growth forecasts building for later next year and decide that there is too much cost in delay.
leo.lewis@ft.com
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