A more hawkish Fed has led to a number of reactions in markets and caused a number of ripples to trickle into unexpected places. One such possible inadvertent impact of Fed tightening could actually lead to outperformance within the Chinese internet sector, as discussed in a recent video by Dr. Xiaolin Chen, head of international at KraneShares.
Comments from the recent Fed meeting saw Chairman Powell discussing the need for the Committee to be “nimble” to address the issue of historic inflation at a time when the economy and labor market are both continuing to improve and are fairly strong. The Fed indicated that there was room for interest rate increases, and markets responded with bond sell-offs that are anticipating rate increases as early as March when the federal bond-buying stimulus ends.
So what could that possibly have to do with the internet sector’s performance in China? KraneShares graphed the correlation between the CSI Overseas China Internet Index and multiple U.S. indexes during the periods of Fed tightening.
“We found the China Internet sector outperformed Nasdaq, S&P 500, and the U.S. Growth Index for seven out of the last nine rate hike cycles since 2008,” explains Dr. Chen.
Image source: KraneShares
The only times that China internet stocks underperformed was in 2018 when geopolitical tensions skyrocketed, impacting global investors’ confidence. The Goldman Sachs tension index saw an increase from 0% to 60% between the course of January of 2018 and June of 2018, with markets directly reflecting these tensions in the pullback.
“We don’t expect this to be repetitive, particularly at the current elevated level that led us to believe the broad tensions has now been priced in,” Dr. Chen says.
When the China internet sector outperformed, it did so by more than 50%-60% during Fed tightening cycles. In January of this year, the China internet index outperformed the S&P 500 by 530 basis points, while outperforming the Nasdaq and the U.S. growth index by 900 basis points. This trend could continue throughout 2022 if interest rate increases do indeed happen, particularly multiple times.
“Obviously these technical studies did not take into consideration of the fundamental macro conditions, but the market expects China to expand fiscal spending and the PBoC (People’s Bank of China) to inject liquidity this year, which are all opposite the majority of the developed market central banks tightening,” Dr. Chen explains.
“So the pro-growth policy, attractive valuations, and the potential performance catch-up from last year could all serve as a catalyst for China internet stocks to outperform,” Dr. Chen says.
The popular KraneShares CSI China Internet ETF (KWEB), which experienced astronomical inflows last year as investors looked to move into the space at value prices, is poised to capture growth and increasing valuations within the sector in 2022.
The ETF has an annual expense ratio of 0.70%.
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