BlackRock downgrades Chinese stocks to neutral as the world's largest asset manager sees a 'rapidly worsening' outlook for the country's economy

• BlackRock on Monday cut its view on Chinese stocks to neutral from overweight.
• Risks are rising for China over its ties to Russia during the Ukraine war, said the money manager.

China's ties to Russia and dimming growth prospects for the world's second-largest economy prompted BlackRock to cut its view on Chinese stocks and bonds on Monday.

The tactical view on Chinese stocks and debt was pulled down to neutral from slightly overweight on a six- to 12-month basis. Investment-grade credit and European government bonds were upgraded to neutral.

"We see a growing geopolitical concern over Beijing's ties to Russia. This means foreign investors could face more pressure to avoid Chinese assets for regulatory or other reasons," said BlackRock.

China's Foreign Ministry said last month it will "strengthen strategic coordination" with Russia no matter what, after Moscow has been hit with a range of Western sanctions for its invasion of Ukraine in late February.

Trade between China and Russia rose roughly 30% to about $38 billion during the first quarter of 2022, according to Vice Foreign Minister Le Yucheng. China's exports to Russia include electronics and machinery, while Russia sells oil and other commodities to China, the world's largest oil importer.

Investors have also been spooked by Beijing's crackdown on the technology sector, contributing to the MSCI China Index's 18% drop this year through the end of April.

"We previously kept our modest overweight on Chinese assets because we saw improved valuations making up for the risks. The rapidly worsening outlook for China's growth on widespread lockdowns to curtail a COVID spike has changed this," said Jean Boivin, head of BlackRock Investment Institute, in a weekly note published Monday. "China's policymakers have heralded easing to prevent a growth slowdown – but have yet to fully act."

China has committed to a zero-tolerance policy in fighting this year's wave of coronavirus infections, prompting officials to impose lockdowns affecting millions of people in Shanghai and other areas including the manufacturing hub of Shenzhen. China earlier this year forecast an economic expansion of 5.5%, the lowest target since 1991.

Meanwhile, yields on Chinese government bonds have fallen below those on US Treasuries, "eroding their previous appeal as a source of potential coupon income," said BlackRock.

The Federal Reserve's fight against inflation has spurred the Fed to begin raising interest rates, leading to a jump in yields on US Treasury bonds. The widely watched 10-year bond yield has surpassed 3% for the first time since 2018.