A Stock Trader’s Guide To China’s Potential Exit From Covid Zero

(Bloomberg) -- The China market's epic ride higher this week is a harbinger of what could come if the nation makes visible moves away from the Covid Zero policy that has stifled the economy. 

Unverified online posts about China's reopening helped key stock gauges post their best weekly performance in years and spurred gains in the yuan. Investors joined the buying frenzy after a brutal year, undeterred by increasing lockdowns and even as the nation's top health body reiterated its commitment to Covid Zero.

“While things are still in the realm of hearsay, the end goal is now in sight,” said Yu Yingbo, a fund manager at Shenzhen Qianhai United Fortune Fund Management Co. A reopening “is almost at arm's length,” he said, expecting the trade to gather momentum.

While a Bloomberg News report Friday said China is working on plans to scrap a system that penalizes airlines for bringing virus cases into the country, much remains uncertain on how and when the economy will reopen. But after months of losses, investors are finding it hard not to position for an eventual exit from pandemic curbs, which would unleash pent-up demand from hundreds of millions and send ripples across markets worldwide.  

Here's a guide to trading China's much-hoped-for reopening. 

Retail Revival 

A revival of banquets and business events could lift catering services, a plus for distillers Kweichow Moutai Co. and Wuliangye Yibin Co., and eateries like Haidilao International Holding Ltd., which has jumped more than 20% this week alone.  

Reopening will brighten the outlook for the broader economy, a boon for the consumer staples cohort, such as dairy producer Inner Mongolia Yili Industrial Group Co. and Yihai Kerry Arawana Holdings Co., one of the largest processors of food products in the country.

To be sure, China's Covid policy pivot is unlikely be straightforward, creating volatility as traders pore over covert signs and policy tweaks. Any loosening will be followed by a spike in infections, creating wariness among the public who have been largely insulated from the virus.

“For investors who don't mind volatility, the reopening and consumption plays make sense but you need to be able to tolerate risk,” said Grace Tam, chief investment adviser for Hong Kong at BNP Paribas Wealth Management.

Luxury Comeback

Spending could go well beyond household staples to more high-end purchases, boosting China Tourism Group Duty Free Corp., which operates an offshore duty free complex in Hainan. Its onshore shares have surged 18% this week, trimming the year's loss to 10%. 

Asia's contribution to the European luxury sector's earnings will also get back on track if Chinese tourists return. Kering SA, which owns the brand Gucci, has suffered from weaker sales in China. 

“A potential easing of Zero Covid would be a welcome positive for luxury stocks,” Swetha Ramachandran, lead manager of the GAM Luxury Brands fund, said in an email, noting it would support the return of greater mobility as well as renewed optimism among Chinese consumers.

Travel Boom

Airlines may finally see a turnaround if China moves to open up. China Eastern Airlines Corp., Air China Ltd., and budget names like Spring Airlines Co. stand to gain.

Read: China Said to Prepare Plan to End Covid Flight Suspensions (1)

Shanghai International Airport Co., one of the busiest air hubs in the nation, and Guangzhou Baiyun International Airport Co. will also benefit, with both firms seeing about 30% gains so far this year.   

Japan's cosmetics makers such as Shiseido Co. will be among the key beneficiaries of Chinese shoppers. The cohort account for 80-90% of inbound cosmetics sales, according to Jefferies Financial Group Inc.

Vaccine Boost 

Covid vaccine makers are under the spotlight as higher vaccination rate is deemed a prerequisite for China's loosening.   

CanSino Biologics Inc. has more than doubled over the past two weeks in Hong Kong as Chinese cities adopted its inhaled vaccine.

Other stocks to watch include Walvax Biotechnology Co., which is developing a homegrown mRNA booster, and China Meheco Co., which has a pact to distribute Pfizer Inc.'s oral pill. Shanghai Fosun Pharmaceutical Group is commercializing a local Covid drug. All of them gained by the double digits on the mainland this week.

China will also need to enhance medical facilities for lower-tier cities and upgrade hospital equipments to brace for a possible increase in infections. Potential winners include Jiangsu Hengrui Medicine Co. and Jiangsu Yuyue Medical Equipment & Supply Co.

Commodities 

As the world's biggest crude importer and second-largest oil consumer, a recovery in China's economy will stir up commodity demand and reverberate from Australian miner BHP Group Ltd. to US-listed copper producer Freeport-McMoRan Inc.

China's top refiner and top energy producer -- China Petroleum & Chemical Corp. and PetroChina Co. -- are the ones to watch when domestic demand for gasoline, diesel and jet fuel recover. 

Yuan Support

The yuan has been under pressure this year, weakening more than 10% versus the dollar as the People's Bank of China kept monetary policy accommodative in divergence with the Federal Reserve.  

Morgan Stanley expects the yuan to strengthen should China eases its Covid Zero policy, given better growth prospects and equity inflows. Going forward, the implication could be mixed with potential outflows from the services sector on outbound travel, the strategists wrote this week. 

“China is an area where we are accumulating,” Subash Pillai, regional head of client investment solutions for Asia Pacific at Franklin Templeton Investment Solutions said this week. “On a 12-month view, we are pretty confident that China will be reopening in some material way.”  

--With assistance from , , and .

More stories like this are available on bloomberg.com

©2022 Bloomberg L.P.