Market Report

China Strategy – Undervalued SOEs

by Steven Yang / Oct 24, 2019

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While countercyclical policy to alleviate economic pressure is a short-term focus, the fourth Plenary Session of the 19th CPCCC will prioritise modernising China’s systems and governance capacity, ie, replace local officials’ key KPIs with high quality development systems. On the economic front, it will continue the agenda from the third Plenary Session of 18th CPC Central Committee in 2013, with deleveraging still a priority.

Near-term implications
The “value” of Chinese SOEs is underappreciated, especially given the HK protests. Valuations are at historical lows for some HK-listed SOEs and triggered several privatisation and buyback cases. Undervaluation itself also provides a good opportunity for long-term investors. SOE reform is accelerating recently, as seen in the 4th batch of mixed ownership program, transfer state stakes to Social Security Fund (SSF), and the previous Double Hundred plan. By 2020, the SSF transfer and Double Hundred listing will be completed on central and local SOE levels.

Besides SOEs, fiscal and financial reform focus will be long-term issues
The key agenda for fiscal reform is to balance revenue sources and expenses between central and local governments (eg, consumption tax, land reform). After the Rmb2tn tax cut this year, room for another massive tax cut is limited near term. Special purpose bonds will play a more important role to counter downside. Another key area to watch is policy banks as quasi-fiscal supports to high-quality development areas (versus investment-related areas previously), eg, high-tech industries, semiconductors, new materials.

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