Bloomberg announced over the weekend that China’s manufacturing grew at the fastest pace in a year. We follow the government’s Purchasing Managers’ Index (PMI) closely, as we believe it is a better indicator of China’s domestic demand than the HSBC PMI. Whereas HSBC PMI surveys 400 small and mid-sized companies, which are typically export-oriented, the government’s PMI surveys 820 mostly large, state-owned enterprises across 20 industries.
Though manufacturing activity exceeded analysts’ estimates, someChinabears focused on the fact that the March 2012 number is lower than the average during the third month from 2005 through 2011. What’s important for investors to consider is that the trend is your friend: It is the fourth month in a row where the PMI landed above the three-month PMI, and shows the economy is on the right path.
Below are three additional constructive trends we see inChina.
1. China Returns Poised to Revert to the Mean
Over the past few years, Chinese stocks have lagged compared to their emerging market peers. However, the Periodic Table of Emerging Markets perfectly illustrates how last year’s loser can be this year’s winner. Historically, every emerging country has experienced wide price fluctuations from year to year. Over time, though, each country tends to revert to the mean.
In the visual below, we highlightedChina’s performance pattern over the past 10 years. Chinese stocks landed in the top half four out of 10 years—2002, 2003, 2006 and 2007. In 2003,Chinaclimbed an astounding 163 percent; in 2007, it was the top emerging market again, returning nearly 60 percent.
Since then, the country has fallen to the bottom half of the chart. If you apply the principle of mean reversion, history appears to favorChinalanding in the top half during this Year of the Dragon.