The China Report Volume 2: The Situation Will Worsen

Overview:

• TD Cowen surveyed 2,000 consumers across key cities in China.
• Our survey shows a deteriorating outlook for housing prices, intentions to buy luxury goods and rapidly declining preferences for Western brands operating in China with few outliers.
• Valuation multiples associated with China-based cash flows are likely to decline further.

The TD Cowen Insight

Western brands are balancing rapidly rising risk in China. Our survey's second iteration of Chinese consumers highlights significant changes in attitudes since our first report in 2024. The survey sees a rapidly deteriorating backdrop and accelerating rise in local brands. TD strategists see a trade war cutting China GDP growth in half to 2.5%.

Higher competition from Chinese brands and rising negativity toward American brands.

Our unique data set combines a survey with our Global and Asia Macro Strategists and 15 analyst forecasts. Comparing survey data to results from 2024 highlights a macro environment that is worsening as it relates to sentiment, housing, rising savings rates and points to higher competition from local brands given rising negativity toward American brands.

The trade war with the U.S. highlights a need for strategic change across a swath of the consumer discretionary supply chain, which has leveraged too-long lead times and chased lowest-cost global labor to boost margins. The growth estimates and valuation multiples assigned to China-based cash flows for most of our companies should decline further.

Proprietary Survey of Chinese Consumers

We partnered with a Beijing-based advisory who conducted in-person interviews of 2,000 consumers across a cohort of ages, low- to high-income consumers across tier 1, 2 and 3 cities. We cut the data based on demographics and include conclusions across tech, retail, luxury, restaurants, food, global strategy and Washington policy.

Chinese competition accelerated into the trade war coinciding with rising preference for local brands. Of the population surveyed:

• 9% found foreign brands more appealing over the past 12 months, down 33% year on year.
• 42% of consumers expect housing prices to decline, an increase on 2024's 9% decline year on year in the index.

Our companies under coverage within the scope of this report generate nearly US$200 billion in China sales and maintain the highest exposure among large cap companies.

Global Strategy Macro Outlook

The U.S. and China are in a new confrontational trade war phase as tariffs hit greater than 100% on both countries. While Chinese consumers are bracing for the impact of U.S. tariffs on the Chinese economy, the surprise is on the speed and magnitude of the tariff rollout. State-run media articles have turned combative, pledging to "not give in to bullying". Anti-Western sentiment has likely risen sharply as a result of the recent trade actions by the U.S.

The policy response has been strong. China has boosted domestic stimulus in recent months to provide a cushion, and going forward, Beijing is likely to take a reactive approach to the tariff impact on the economy. We think the July Politburo meeting could be an opportunity to announce new fiscal stimulus. We expect stimulus to underpin growth this year and offset much of the impact of the trade war, but it's notable that despite significant stimulus over the past year, the consumer remains relatively pessimistic. Stimulus has provided a floor, rather than a boost, to households. Ultimately, we look for GDP growth this year to come in on the soft end of official targets at 4.8% but with downside risks.

China faces two deep structural challenges. First, China’s population is now shrinking, and demographic projections suggest this trend will slowly intensify. Second, and not unrelated, the consumer continues to underspend in part because consumers lack confidence. This comes in large part from a continued weak property market. The house price cycle continues to be a drag with inflation-adjusted prices falling further along the path seen among many other countries in recent decades. This erodes household savings, weighs on confidence and is a further drag to household spending.

We draw four broad conclusions from the results of the TD Cowen 2025 Chinese Consumer Survey:

• Consumer income and spending intentions have dropped further from last year.
• Savings, a sign of household cautiousness, remain high.
• Western brands are less appealing than Chinese brands.
• Middle-aged consumers are more pessimistic on the property market than others.

TD Cowen Washington Research Group Outlook

The Trump Administration's global economic reset and tariff tsunami is the biggest shock for investors over the first 100+ days, but we think the tariffs on China belie the administration's overall strategic policy toward China, which has become even more obvious since Trump 1.0 and the continuation of broader decoupling push economically and technologically.

We expect larger issues beyond just tariffs will continue to influence the U.S. – People's Republic of China (PRC) bilateral relationship and affect economic, trade and technology over the coming four years. Moreover, President Trump has decided to use executive branch powers for trade and technology that were previously debated endlessly and never enacted (i.e. ending the de minis exemption). For now, the Republican-controlled Congress appears content to let Trump fight the trade war while it focuses on reconciliation and taxes. We would expect Congress to pursue new and some old China legislation in the second half of the year if not derailed by reconciliation hiccups.

Continued tech decoupling, reshoring of manufacturing and diversifying of critical supply chains will continue regardless of high-level trade agreement in our opinion.

Retail and Consumer Brands Outlook

Roughly 42% of consumers expect the residential property market to decline in some way — either slightly (36%) or significantly (6%) — and this is on top of last year's 9% decline in China housing prices, which will create negative feedback loops for wealth effects. While 60% of Chinese consumer assets are invested in housing assets savings rates are moving higher and discretionary spending faces headwinds.

We observed that 28% of respondents found western brands less appealing, which is up from 25% last year. In a similar vein, only 9% of respondents indicated that western brands were more appealing, a marked drop from 14% last year. All age and income cohorts indicated an increase in "less appeal" responses, rising an average +316bps from the indications of the 2024 survey. The greatest increases in the "less appeal" response year on year was +453bps among the High Income category and +437bps among age 18-34 demographic.

Our companies under coverage with China exposure are now valued at or below five-year lows in terms of Two Full Year Price to earnings (FY2 P/E) multiples given the uncertainty over global tariffs, demand from China consumers and Beijing's potential responses to American companies. While our survey and macro work highlights a deteriorating backdrop, investor sentiment towards China has improved relative to the U.S.

In summary, peak negativity toward China equities and cautious sentiment regarding China-exposed U.S. and European listed stocks has calmed with a heavier focus on a weakening U.S. economy. Supply chain exposure toward China and Far East Asia continues to rely on longer lead time, low-cost labor which now faces increasing tariffs and rising risk. Geopolitical tensions and now tariffs have created an existential moment for strategy behind many retailers' and brands' sourcing and overall cost structures. The industry has chased the lowest cost of goods without enough strategy on risk, which is now becoming increasingly higher.

The risk of a Chinese conflict with Taiwan (a critical source of fabrics and materials in the Softlines supply chain) appears to be rising. In contrast to rising caution regarding the Washington and Beijing trade war, our proprietary index of Asia-based footwear and athletic manufacturing suggests trends are stable, though that will likely change as the trade war progresses. Trade war calls for diversification of the supply chain from Far East Asia.