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Shuo Xu

Shuo Xu

Vice President, MSCI Research

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Focusing a Sustainability Lens on China’s Regulatory Changes

  • China’s recent regulatory changes, made in line with the stated objectives of the 14th Five-Year Plan, aim to shift the country’s development focus toward social equality and sustainability.
  • While markets reacted negatively year to date, the long-term fundamentals of China’s equity market remained stable, and analysts’ consensus forecast on long-term earnings growth is relatively strong.
  • Instead of fundamentals, however, we examined whether using ESG data can help investors assess industry- and security-level vulnerability to certain regulations, as they seek to identify potential winners and losers.

Investors, especially international investors, may consider recent regulatory changes in China as a macro uncertainty that led, in part, to the signficant underperformance of China exposures this year. From January to July, the MSCI China Index underperformed the MSCI World and the MSCI Emerging Markets ex China Indexes by 27.6% and 20.8%, respectively. But some investors, including some large asset managers, might view the regulations — which aim to shift China’s development priorities to a balance between growth and sustainability — as seeking to address long-standing systemic and structural issues,1 in line with the country’s 14th Five-Year Plan.2


China Regulatory Changes and Index Performance

Data from Dec. 31, 2020, to July 30, 2021.


Demographic Change Influenced Recent Regulations

After decades of high-speed growth, China’s economy is facing new demographic challenges. According to the United Nations, the percentage of China’s working-age population (between 15 and 64 years of age) dropped below 70% in 2020 and is expected to decline further to around 65% by 2035.3 In addition, China’s fertlity rate dropped to 1.7 in 2020 and is expected to stay low over the next few decades. In this context, the new regulations represent the Chinese government’s attempt to address this series of social issues and seek sustainable and equitable growth.


China’s Population and Employment Structure

Source: National Bureau of Statistics of China, United Nations, World Bank


Have Fundamentals Changed?

Asset allocators may ask whether the recent regulatory changes could represent a structural shift in China’s equity risk premium and growth rate.

Sell-side research analysts’ consensus forecasts find that the fundamental outlook of China’s equity market remained stable. For example, analyst consensus of long-term forward earnings-per-share growth for constituents in the MSCI China All Shares Index rose to 22.2%, as of July 2021, from 11.6% five years ago. This is significantly higher than estimates for the MSCI Emerging Markets and MSCI World Indexes.


Analyst Estimates of Long-Term Forward Earnings-per-Share Growth

Data from July 2016 to July 2021. Source: MSCI Index database, Thomson Reuters


Case Studies: Implications for Securities with ESG Data

Even though overall market fundamentals may not be significantly affected by the regulations, investors can make use of ESG data as they seek to identify risks and opportunities across industries and individual securities, given the regulations’ focus on ESG-related issues.

Case Study 1 — Privacy & Data Security: With the enactment of China’s Data Security Law in June 2021, companies and industries with higher exposure to data-security risks could be more susceptible to regulatory risk.4 In the exhibit below, we compared the average “Privacy & Data Security Exposure Score”5 for 60 Global Industry Classification Standard (GICS®)6 industries in the MSCI China All Shares Index, as of December 2020, and the average return of stocks in each industry through July 2021. Industries with less exposure to data-protection issues generally performed better than those with greater exposure.


Average Industry Exposure to Privacy and Data-Security Risk vs. Average Industry Return

Privacy & Data Security Exposure Scores as of Dec. 31, 2020, and return data from Dec. 31, 2020, to July 30, 2021. Source: MSCI ESG Research

Case Study 2 — Access to Health Care: While it may be too soon to assess the market impact of the effort aimed at ensuring equal access to social services, including the prohibition of profit-oriented “after-school tutoring,” we looked at a similar regulatory action in pharmaceuticals procurement from January 2021.7 Pharmaceutical companies in the MSCI China All Shares Index that had higher “Access to Health Care Scores”8 found support from the procurement guidelines and generally outperformed those with lower scores.


Access to Health Care Score vs. Returns for Pharmaceutical Companies

Access to Health Care scores as of Dec. 31, 2020, and return data from Dec. 31, 2020, to July 30, 2021.

Case Study 3 — Overall ESG Rating: Some of the other regulatory changes, such as the decarbonization, antitrust and anticorruption initiatives, might have a longer-term impact on companies and are reflected in key ESG metrics used by MSCI ESG Research. Depending on the sector, a company’s overall ESG rating may reflect the risks, and opportunities, that such regulatory changes could present. In addition, during the decarbonization campaign, companies with higher energy efficiency or lower carbon emissions were generally less exposed to the downside risks associated with these new regulations. We therefore looked at the MSCI China ESG Leaders Index, which selects the best-ESG-rated 50% of companies in its parent, the MSCI China Index. MSCI China ESG Leaders outperformed its parent index by 2.9% from January to July this year during the regulatory crackdown. Additionally, the MSCI China Climate Change Index, with almost 70% lower carbon emissions than the MSCI China Index, outperformed that index by 1.1% during the same period.


MSCI China ESG Leaders, MSCI China Climate Change and MSCI China Indexes’ Performance

  MSCI China MSCI China ESG Leaders MSCI China Climate Change
Return (Long-term)* 7.40% 12.40% 7.80%
Annualized Volatility (Long-term)* 20.30% 21.30% 20.70%
Return (Short-term)** -12.20% -9.30%  -11.10%
Annualized Volatility (Short-term)** 25.70% 30.00% 26.40%
ESG Rating (Score)*** BB (4.2) BBB (5.0) /
Social Pillar Score*** 4.8 5.1 /
Carbon Emissions (t CO2e/$M Invested)*** 170 / 54

*Data from Nov. 29, 2013, to July 30, 2021. **Data from Dec. 31, 2020, to July 30, 2021. ***Data as of July 30, 2021. Source: MSCI ESG Research


Using Sustainability Data to Evaluate Sustainability-Focused Regulations

In conclusion, investors may look beyond short-term market volatility to assess the fundamental impact of China’s recent regulatory changes on the market, industries and securities holistically. They can use ESG data in addition to the more conventional macro and fundamental metrics, as they seek to refine asset allocation and identify potential winners and losers.



1He, Laura. “China's 'revolution' cost investors $3 trillion. So why aren't they running scared?” CNN Business, Sept. 1, 2021.

2China’s economic growth has been largely led by government-initiated plans and strategies. The Five-Year Plans are a series of social and economic-development initiatives and contain economic guidelines for all its regions.

3“2019 Revision of World Population Prospects.” United Nations Department of Economic and Social Affairs.

4Luo, Yan, and Yu, Zhijing. “China Enacts Data Security Law.” Covington & Burlington, June 11, 2021.

5The Privacy & Data Security Exposure Score captures information on the extent a company’s business is vulnerable to privacy and data-security risk. Higher scores indicate greater risk.

6GICS is the global industry classification standard jointly developed by MSCI and S&P Global Market Intelligence.

7Keju, Wang. “China to advance reform of centralized drug bulk-buying to ease patients’ financial burden.”, Jan. 15, 2021.

8The “Access to Health Care Score,” under the MSCI ESG Ratings framework, tries to evaluate companies’ efforts to improve access to health care for underserved populations.



Further Reading

The Impact of China’s New Regulations: A Thematic Lens

Foundations of Dedicated China Allocations: Part 1

Foundations of Dedicated China Allocations: Part 2

China A Shares: What Have We Learned?

ESG Investing: ESG Ratings