China's Economic Revival: A Cautionary Approach is Advised

China's Economic Rebound Creates Opportunities and Challenges for Investors

Hong Kong - China's economy is showing signs of recovery, with the country's gross domestic product growing 5.0% year-on-year in the first quarter, up from a three-year low of 4.5% in the fourth quarter. This rebound is being driven by strong manufacturing and exports, with high-tech manufacturing helping to offset the drag of a slowing property sector and patchy consumer spending.

Beijing's Policy Priorities Pay Off

Beijing's efforts to upgrade the country's economy over the past decade through investment in advanced technology, green energy, and high-end manufacturing have clearly paid off. These efforts are also showing up in China's stock market, with three of the eight Hong Kong-listed sectors that have outperformed the market through mid-May - industrials, technology, and process industries - all sitting at the intersection of Beijing's policy priorities.

Read also: Treasury Yields Experience Largest Increase in Two Weeks Following Release of Labor Market Data

China's two largest electric-vehicle makers, BYD and Geely, were up 2% and 19%, respectively, in the year through mid-May, buoyed by premium products and strong exports. Smaller rivals Xiaomi and XPeng fell more than 20% in that time, weighed down by margin fears as the price war in the industry has intensified.

AI and Involution: Opportunities and Pitfalls

Artificial intelligence (AI) is one of Beijing's key priorities, and a major driver of equity market performance. However, "AI losers" are emerging in China, too, following the launch of Anthropic's Claude AI platform in early 2026. Shares of some Chinese platforms serving tourism and online music, such as Trip.com and Tencent Music, nosedived and have not recovered.

Read also: US-Iran Tensions Spark Uptick in Oil Prices Amid Global Market Decline

Navigating the Challenges of Involution

The results of Beijing's efforts to stamp out "involution" - overcapacity and deflation arising from soft domestic demand and disorderly, excessive competition - have been mixed, creating both opportunities and pitfalls for investors. In the electric-vehicle sector, almost a year after Chinese authorities warned EV makers to end their fierce price war, discounts keep coming, with top manufacturers offering 10% to 15% price cuts in the face of massive overcapacity and declining auto sales.

Companies That May Be Better Positioned

To avoid the pressure of intense competition, investors may consider focusing on companies that are neutralizing the pressure on their domestic margins by expanding high-value exports. Geely and BYD both appear to be in this camp, having each expanded aggressively abroad in recent years. BYD posted a 56% year-on-year rise in exports in the first quarter of 2026, with Geely boasting a 126% jump.

Policy Wins and Risks

Some of Beijing's other efforts to boost efficiency and innovation are also bearing fruit, such as in the solar energy industry, where government-encouraged consolidation has pushed more than 40 smaller firms into bankruptcy or acquisition. Shares of large, vertically integrated solar firms have benefited from the consolidation, with sector leader Jinko Solar up more than 20% over the past 12 months.

China's large market clearly features myriad positive drivers - many of which could prove durable. However, the risks should not be overlooked, including rising geopolitical tensions with the U.S. and disorderly competition. Investors thus need to proceed with caution - and not skimp on the due diligence.