China: A promising year driven by fundamental recovery
After a roughly 50% pullback from the 2021 high, the MSCI China Health Care Index is now trading below its five-year average level. We believe that robust COVID recovery and a more predictable policy environment have created the opportunity for a re-rating.
Reduced COVID restrictions usher in recovery
One signal of a COVID rebound is recovering hospital traffic. Since the Chinese government lifted its COVID-containment restrictions in late 2022, hospitals are returning to business as usual after a two-year slump. Hospital traffic is an important metric of demand for health care. Greater hospital traffic leads to greater demand for medical drugs, devices, and related products, which signals the potential for better growth across the industry.
Supportive government policy encourages innovation
A supportive policy backdrop in China has significant ripple effects across the industry, encouraging investment in research and development, which leads to innovative pipelines. This is an important foundation as companies with innovative pipelines have a greater chance of addressing unmet clinical needs, a key driver of long-term returns in the space.
An important development is the stabilization of the government’s volume-based procurement (VBP) initiative, which has weighed on the biopharmaceutical and medical device industries for the past five years. VBP measures aimed to lower the price of medications and medical devices for consumers, hampering revenue and profitability for the impacted drug and device manufacturers. Now, the government appears comfortable with the price adjustments VBP has put in place and is easing up on its policies, seeking greater balance between cost control and innovation. More room for innovation speaks to future opportunity in health care in China.
We also see greater support for traditional Chinese medicine (TCM), which has a long history in the country and is a priority of the 14th five-year plan. The government recently expanded reimbursement coverage of TCM drugs and industry quality standards have improved — two convergent measures that provide better access and support innovation in this space.
Now that China is entering a more predictable, improving policy environment, we expect that earnings growth and visibility — especially of leading innovators — could be higher going forward.
Fundamentals can weather geopolitical volatility
We’re sanguine on the prospects of biotech and medical device companies that can develop best-in-class or first-in-class products. These types of companies have strong long-term growth potential because their products or services could be substituted in local markets in China and possibly enter markets in other regions. Product marketability in local markets is an especially important consideration here because the market demand is huge, with a large patient base, and global brands still dominate in most of the therapeutical areas. While China has experienced some geopolitical instability in the recent past, if its local markets can perform well, this may offset some international pressures from an investment perspective.