Since the COVID-19 outbreak, the pandemic has spread to every corner of the globe and sent shock to the entire market. Under a shift of economic and social conditions, how can investors deal with market volatility? Where will China’s A-share and Hong Kong’s stock market go?

Invited by the Center for Finance EMBA, Dato’ Seri Cheah Cheng Hye, Tsinghua PBCSF Finance EMBA alumnus and Co-Chairman and Co-Chief Investment Officer at Value Partners Group, shares his observation and insight on the COVID-19 impacts on the investment market, as part of the Finance EMBA COVID-19 webinar series.

Dato’ Seri Cheah is considered one of the leading practitioners of value investing in Asia and beyond. With more than 30 years of investment experience, he has been in charge of Value Partners since co-founding the firm in February 1993 with his partner Mr. V-Nee Yeh. The firm, listed in Hong Kong In 2007, is the first asset management company on the bourse.

While the pandemic has triggered the most severe economic crisis since the Great Depression, Dato’ Seri Cheah believes that the world economy will not be able to rebound quickly in the short term, and is likely to result in either a U- or L-shaped recovery.

Dato’ Seri Cheah presented the U.S. market analysis amid COVID-19, the pandemic’s impacts on the Chinese economy and market, as well as investment strategies.

U.S. Market Remains Overvalued 

Dato’ Seri Cheah believes that despite a sharp correction, the U.S. stock market’s valuation remains higher than its historical average.

The upbeat investor sentiment mostly supports the market. For now, though, there are still no vaccines to protect humanity against COVID-19 while the financial market is overly optimistic about the policy stimulus globally. In addition, a rapid recovery of the world economy in a V-shaped trajectory is highly unlikely.

Next, we are wary about the bubble created along the decade-long bull market in the U.S. after a massive monetary easing programme. Such a backdrop implies that the country had been facing a structural crisis even before COVID-19. The coronavirus outbreak was only a trigger. The Dow Jones Industrial Average Index saw a 30% rebound, which to us was unreasonable. Compared to the reasonable valuations of the Chinese mainland and Hong Kong assets, the U.S. market is expected to fall steadily over the next two years. Optimistically speaking, a U-shaped recovery is to occur, but we should not rule out an L-shaped, prolonged recovery path.

Third, the civil society in the U.S. is deeply divided, with a climbing debt ratio and a low saving rate – a combination that weakens the economy. The increasingly divided society has slowed the growth of middle-class income. Public and private debt is a roaring 350% of the country’s GDP, and the national savings rate nears zero.

Besides, the increasingly chaotic geopolitics and the excessive emphasis of American capital on passive investment have contributed to more stock market volatility. COVID-19 has exposed the structural weaknesses of the U.S. It seems that the pandemic not only brings out a global crisis, but also a crisis of Western free-market capitalism.

China: Arduous Recovery but Promising Future 

During the webinar, Dato’ Seri Cheah said that the impact of COVID-19 on China is more like a natural disaster, that its influence is temporary, and that the resilience and depth of the Chinese economy ensure an arduous but promising recovery.

China’s unemployment rate is expected to rise, and the country’s exporters face a heavy drop in orders as the Western consumers reduce spending.

Moreover, the magnitude of anti-China sentiment climbs to a record high in the West, and China faces the challenges of international isolation. However, China’s economic development prospect is very promising, as shown in the following aspects.

First, China is the first major economy to walk out the pandemic, exhibiting a “first-in, first-out” case. The country enjoys a vast domestic market to get out of the crisis. Lastly, China still has an ample room for reform and economic stimulus.

China has plenty of policy room to cushion the impact of the pandemic, such as the 2.6% interest rate on 10-year government bonds compared with 0.6% in the U.S. China’s policy tools comprise not only of traditional fiscal and monetary policies such as interest rate adjustment and tax cuts, but more of the supply-side structural reform, for example developing city-cluster economies, building IoT as well as deepening reform.

Fourth, China’s per capita income has grown rapidly, contributing to the development of the world economy. China’s per capita income has increased by about 28 times in the last 27 years. Given its huge population, China has contributed significantly to the growth of the world economy.

Over the same period, the real purchasing power of the middle class in the U.S. has roughly stayed the same. The American system has created a bubble economy and numerous billionaires, but it has also led to a widening gap between the rich and poor, stagnant social mobility, and failure to improve basic livelihood issues, such as healthcare and education.

Fifth, China has a high proportion of new population(-> newborn you mean?) around the world, and the improving education level can effectively offset the negative impact of ageing. With 40% of the world’s millennials living in China and India, they are the biggest source of supply, demand, productivity and innovation.

Every year, 11.6 million Chinese university graduates enter the job market, compared with only 3.7 million in the U.S. and less than 1 million in Japan. China and India will account for 60% of the world’s STEM graduates by 2030, indicating that China will inch close to take the lead in science and technology fields, which is a crucial reason for investors to remain constructive on its economic prospects.

In addition, Dato’ Seri Cheah also believes that A-shares will have excellent performance in the next two years. China’s stock market is more stable than that of the U.S. It has experienced some ups and downs before the COVID-19 outbreak and is now recovering from a low level, serving a safety cushion.

Despite the low valuation of China’s stock market, market sentiment should be restrained (-> hard to understand, restrain from what?). This is because some institutions rule out the possibility of another dip in the stock market when forecasting.

Investors should also take into account that many companies may see earnings falling short of expectation and provide less guidance, which may lead to above-normal market valuations.

To sum up, China’s economic outlook remains positive. However, the impact of COVID-19, the emerging political and economic crisis in the U.S. and the breakdown of global trust and cooperation will make China’s road to economic recovery more tumultuous and complicated.

Future Investment Strategy: Play Both Attack and Defense

Even before the global COVID-19 outbreak, Dato’Seri Cheah had put forward an investment strategy combining both attack and defence. The former refers to buying Chinese stocks and bonds and the latter holding gold and cash.

First, if you don’t play attack by purchasing assets, you may miss out the gains from asset appreciation. Although financial assets currently account for 5.4 times the world’s GDP, presenting certain risks, the global system including China is willing to support asset prices. Therefore, buying assets means enjoying the gains from asset appreciation.

Meanwhile, with the U.S. and Australia already engaged in an unlimited quantitative easing programme, the bursting of a bubble is only a matter of time. Excessively loosened policy may cause the financial system to collapse, so physical gold and cash are needed to hedge against risks.