Dale Nicholls, Portfolio Manager of Fidelity China Special Situations PLC (LON:FCSS), the UK’s largest China Investment Trust, provides his expert view on why he is optimistic about China investment opportunities in 2023 (Year of the Rabbit) and beyond.

2022 was a tumultuous period for China’s markets with economic growth weighed down by property sector woes and repeated lockdowns as a result of the country’s zero-Covid policy. With valuations for many companies now at historical lows, Dale Nicholls, portfolio manager of Fidelity China Special Situations PLC, outlines why he believes China offers compelling investment opportunities over the coming year.

Market sentiment towards China has been very negative following the recently concluded Party Congress, and we have seen a number of foreign investors reduce their exposure. In our view, this sell-off has been overdone.

We believe that government policy will move to address factors related to zero Covid and the property sector, along with further easing for both the monetary and fiscal side.

We believe valuations are also now very attractive versus both history and other markets. In this environment, my investment process has remained consistent, and if anything, I am finding a plethora of buying ideas and opportunities and this is reflected in rising net gearing levels – the ability to borrow more to invest – for the Trust.

What could surprise markets in 2023?

Self-sufficiency and import substitution will continue to be major themes in the coming years. Recent US regulations limiting the sale of advanced semiconductor chips/chipmaking equipment used in Artificial Intelligence and supercomputing to Chinese companies have made headlines globally. We continue to monitor these developments and the impact they could have on various industries and companies. We believe this could accelerate the development of domestic industries and supply chains in China, a trend which is clearly supported by the Government. We remain focused on potential investment opportunities as a result.

Meanwhile, we believe the peak of new regulatory reforms, particularly in China’s internet space, is now behind us. Additionally, increasing visibility around the regulatory landscape should result in further clarity around the earnings outlook and add support to valuations in these sectors.

China’s zero Covid policy has taken a toll on the economy as well as on market sentiment. While the short-term outlook for the consumer sector will remain tough, if we do see gradual easing, this could underpin an economic recovery.

Ongoing weakness in the property sector has been another drag on growth for the economy. While keeping property prices affordable remains a priority as part of general common prosperity goals, we also believe we will see more meaningful supportive measures to stabilise the sector.

Positioning for what lies ahead in 2023

In terms of opportunities and ideas, we remain focused on stocks and sectors well positioned to benefit from China’s long-term structural growth drivers. The regulatory wave that we have seen over the last 18 months has created significant bifurcation in valuations in the market between those sectors “aligned” with government policy and those that have come under regulatory scrutiny. Therefore, it is not simply a matter of owning companies in the portfolio that are aligned – one needs to be disciplined and selective.

We have increased exposure to consumer names offering extremely attractive valuations as many have been sold-off over lockdown concerns. We continue to remain overweight in the IT sector, which has been subject to greater regulation and scrutiny by Chinese regulators. Nevertheless, we believe the worst is now behind us, and the focus going forward will be on refining and implementing those regulatory policies while being mindful of the inherent risk.

We continue to be very focused on areas that could benefit from policy support, particularly given the geopolitical pressures, such as renewable energy, semiconductors and infrastructure-related industries. However, these themes are generally well known and understood by the market, so I am mindful of stretched valuations. As always, stock-picking is key.

We have also increased exposure to the real estate sector where valuations are at extremely low levels.

Overall, we remain firm believers in China’s long-term structural growth story and are focused on identifying companies – across both public and private markets – that are best placed to benefit from a growing middle class and the shift towards a more consumption driven economy. While it has been a tough period for investors in China, we remain optimistic about our holdings and confident in the ability of our strong on-the-ground team to help deliver returns over the long term.

Fidelity China Special Situations PLC (LON:FCSS), the UK’s largest China Investment Trust, capitalises on Fidelity’s extensive, locally-based analyst team to find attractive opportunities in a market too big to ignore.

Important Information:

The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Investors should note that the views expressed may no longer be current and may have already been acted upon. Overseas investments are subject to currency fluctuations. Fidelity China Special Situations PLC can use financial derivative instruments for investment purposes, which may expose it to a higher degree of risk and can cause investments to experience larger than average price fluctuations. This trust invests more heavily than others in smaller companies, which can carry a higher risk because their share prices may be more volatile than those of larger companies and the securities are often less liquid. This Investment Trust invests in emerging markets which can be more volatile than other more developed markets. The shares in the investment trust are listed on the London Stock Exchange and their price is affected by supply and demand. The investment trust can gain additional exposure to the market, known as gearing, potentially increasing volatility. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.

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