The changing face of the Chinese consumer

Fidelity China Special Situations PLC’s Dale Nicholls outlines the significant shifts in consumption habits and preferences that have taken place in China over recent times. As local brands gain traction and demand for services increases, he reveals how he is positioning to capture new opportunities as they emerge.

Key points
 

  • While consumption growth has slowed in China recently, the opportunity to invest in how and what China consumes remains significant.
  • The consumer landscape is evolving and there is, for example, an increasing preference for local rather than global brands which is benefiting some domestic companies.
  • As preferences shift, it’s important to take an active approach to stock selection to fully capitalise on the changing face of the Chinese consumer.

With over 1.3 billion customers, growing income levels and a government committed to promoting a consumption-led economy, the opportunity to invest in how and what China consumes remains significant. The scale and scope of this structural shift is borne out by the fact that consumption now accounts for around 75% of overall GDP growth in China.

More recently, however, we have seen a combination of trade tensions and a cyclical slowdown in the broader Chinese economy impact consumer confidence. Last year saw retail sales growth slow to high single digits - still enviable in a global context - with high ticket purchases seeing a more significant adjustment. The auto market experienced its first decline in over two decades, although there have been notable pockets of strength in the consumer space, with areas like domestic sportswear, baijiu (rice wine) and ecommerce remaining strong albeit still slowing.

So, despite the well-recognised near-term economic challenges facing China, there are still opportunities for discerning investors willing to take a longer-term view.

The key trends to watch

Within consumption there are some key trends which I think are being overlooked or underestimated by investors. The shift to a preference for local rather than global brands within certain products, the premiumisation of consumption trends and also increasing demand for lifestyle services and experiences like education, health care and travel.

The Chinese consumer has traditionally been viewed as an aspirational buyer of Western luxury brands. But today there is an increasing trend in the number of Chinese consumers considering local domestic brands.

According to research consultancy Prophet, Chinese brands have overtaken once favoured global multinationals. Chinese brands now take up 30 of the top 50 brands, a massive increase from 2016 where the number was just 18. The likes of Apple, BMW and IKEA have been replaced by Huawei, Taobao and Meituan Dianping.

From global to local - China’s favourite brands

Ranking 2017 2018
1 Alipay Alipay
2 WeChat Android
3 Android WeChat
4 IKEA Huawei
5 Apple Microsoft
6 Nike Taobao
7 Estee Lauder Intel
8 BMW Meituan Dianping
9 Marriott QQ
10 NetEase Cloud Music Tmall

Source: Prophet Survey.

As the Chinese consumer matures it is also becoming more discerning and focused on value, which increasingly favours local brands who understand the local market. Apple’s recent financial results laid the blame for a revenue cut firmly at slowing Chinese demand. While this may be partly true and in line with overall slowing consumer demand during 2018, I think it’s rather simplistic and ignores shifting consumer habits. Local competitors such as Huawei offer similar specification handsets but at more attractive price points.

A number of holdings within Fidelity China Special Situations PLC are well positioned to capitalise on these shifts. China’s sportswear market, which is expected to see double digit growth over the next few years, is a good example. Nike, a well-established global player, has a firm hold on the premium end of the market. But on a mass market level local brands such as Li-Ning are developing. Li-Ning, founded by a former Chinese Olympic gymnast, has done a great job in transitioning the brand, appealing to a younger and broader audience with reference to Chinese heritage and characters. While Nike and Adidas will continue to hold impressive market share in China’s sportwear market, Li- Ning is certainly leading the domestic charge.

Demand for services is also rising

On the services side, the portfolio holds New Oriental which is one of the largest tutoring companies in China with around 6.3 million total student enrolments in 2018. By May 2018 it had 1,081 learning centres in 75 cities across China. It’s set to benefit from a growing middle class that is also becoming more aspirational and places significant value on education, especially due to a highly competitive jobs market.

At the industry level, the key driver for private tuition is low university acceptance rates. China operates a nine-year compulsory education programme through primary and middle school. However, there is a significant drop-off rate for high school and university enrolments as students fail to progress. The low acceptance rate has encouraged parents to send their kids to after-school tutoring to help them prepare for university entrance exams.

These examples highlight to good effect that while the rate of growth is slowing in China, there are no shortage of consumer-related investment opportunities. But as preferences evolve and trends change, it’s important to take an active approach to stock selection to fully capitalise on the changing face of the Chinese consumer.

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Important information

The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Investors should note that the views expressed may no longer be current and may have already been acted upon. Fidelity China Special Situations PLC can use financial derivative instruments for investment purposes, which may expose the trust to a higher degree of risk and can cause investments to experience larger than average price fluctuations. Overseas investments will be affected by movements in currency exchange rates. Investments in emerging markets can be more volatile than other more developed markets. Investments in smaller companies can carry a higher risk because their share prices may be more volatile than those of larger companies. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.

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