2023: Year of China
Easiest trade of the year
As the new year begins, I ponder the easiest trade for 2023. Reflecting on the past three years, it becomes apparent that 2023 is poised to be dominated by China.
Let me share my insights below:
Easiest trade for 2020s
2020 - Year of CRYPTO
2021 - Year of TINA
2022 - Year of YEN
Easiest trade for 2023
2023 - Year of China
Easiest trade for 2020s
2022 - Year of YEN (20% return for BRLJPY)
2022 is a year where the Japanese Yen is smashed in a massive carry trade.
The easiest macro trade is long BRLJPY (short Japanese Yen and long Brazilian Real).
Due to the large interest rate difference of 13+% between both countries, it is lucrative to borrow money at almost zero interest rate in Japan, and place them into a fixed deposit in Brazil to enjoy a pickup of 13% in interest rates. Hence, this resulted in a massive carry trade funded by shorting the Japanese Yen.
Until October, this BRLJPY trade was a one-way trade, generating 40% return. It was only when BOJ intervene before the carry trade retraced to a smaller but still hefty return of 20% by end of the year.
2021 – Year of TINA (29% return for S&P500 Index)
2021 was characterized by "TINA" i.e. There is No Alternative. As s result of low interest rates, investors prefer US equities over bonds. This led to massive inflows into the US equities, with an impressive 29% one-way return for S&P500 Index.
2020 -Â Year of CRYPTO (305% return for Bitcoin)
Cryptocurrency had a breakout year in 2020. Bitcoin and Ethereum, the two most recognized cryptocurrency, delivered 305% and 475% respectively in 2020. Many risk assets rose too. Nasdaq Index jumped 48% in 2020, led by the mega-tech stocks with the NYFANG+ Index rising 103%.
Easiest trade for 2023
2023 - Year of China
I suggest that 2023 could be the Year of China. The reason is simple. It is finally re-opening up and doing away with COVID-related restrictions.
Have we seen this playbook before?
Yes. The US in 2021.
As illustrated earlier, US equities was the best performing trade with a 29% increase in S&P500 Index for 2021. TINA was not the only reason driving the US equities. COVID re-opening was another main driver. As the vaccination pace accelerated in 2021, the reopening of the US economy gained steam. There was also further economic boost from massive fiscal and monetary stimulus. EPS growth jumped 46% in 2021, doubling the recent highest EPS growth of 24% in 2018.
Similarly, 2023 marks the re-opening of China with most COVID-related curbs effectively eliminated as of early January. With the re-opening, China is the only major economy likely to see an improvement of GDP growth to 4.9% in 2023 (from 3.0% in 2022). In contrast, the US is expected to see GDP growth drop to 0.3% in 2023 (from 1.9% in 2022).
Furthermore, the Chinese government is reversing its years-long regulatory crackdown and even singled out Chinese internet companies as part of a plan to support private sectors. The most concrete step is seen in the recent approval by the China regulators in allowing Ant Group to raise $1.5 billion for its consumer finance unit.
The Chinese internet companies are like coiled spring, after years-long regulatory crackdown has resulted in valuation de-rating. As a comparison, the Nasdaq Golden Dragon Index (index of US-listed Chinese companies) has declined 32% since the beginning of 2020. This contrasts with the positive 43% return for NYFANG+ Index over the same period.
The Chinese internet companies are also cheaply valued. Nasdaq Golden Dragon Index trades at 22.8x P/E, more than 1 standard deviation below its 3-year mean P/E of 33.3x. EPS growth is anticipated to be 33% in 2023. This puts the PEG at 0.7x on the back of 22.8x P/E.
I have been calling for the bottom for Chinese equities around September/October last year. Since then, the Nasdaq Golden Dragon Index has risen 65%. While it has risen a lot from the bottom, there could still be more legs for the rally to continue this year. Any pullbacks will be a good opportunity for investors to enter into Chinese equities.