Mainland consumption-related sectors still look attractive in spite of the fact that the outlook for mainland stocks in general has deteriorated.

The tempered optimism about the broad market reflects heightened policy risks - particularly those related to recent government moves to cool down the property market - and it's potentially dampening effect on the real economy and markets.

The new measures to curb property bubbles are really powerful, explaining our "neutral" stance on the short-term prospects for the broader Chinese equity market.

Yet, because the government's anti-bubble policies are targeting only specific sectors - including the property and banking sectors - we remain upbeat about the prospects for companies exposed to domestic consumer spending, an area that Beijing remains determined to bolster as part of its planned moves to develop a more sustainable and better-balanced economy.

Let's look at the factors that have made the outlook for the broad market less positive. The most significant one is Beijing's resolve to clamp down on speculative activities in the real estate market.

The government's determination to control property prices is unprecedented, as revealed by the author's own finding on her recent research trip to the mainland, where she met senior officials.

A series of initiatives have been rolled out over the last couple of months. The most important ones are restrictions on lending to non-resident buyers, higher down-payment requirement for second-home purchases and the banning of mortgages for third-home purchases. A property-tax pilot program may be introduced in some major cities shortly. All add up to quite a severe package.

The new measures to curb property bubbles are really powerful. They are sensible macro policies that should be effective in preventing bubbles from forming.

Why are the ministries and other regulators taking such strong actions? Or, to put it another way, what is it about the real estate market that worries them so much? They have been spooked by record rises in property prices this year. In March alone, for instance, property prices across 70 cities soared by 11.7 percent from a year ago.

Policymakers believe stricter measures are necessary to curb speculative activities that they believe are responsible for the price surges.

Record low housing inventories, due to a decline in construction starts during the 2008-09 economic crisis period, also contributed to the surge in property prices. The tight-supply situation will not ease this quarter, as inventories have not increased due to the length of the construction cycle.

Policymakers consulted by the author recently are confident that the package of measures will prevent rapid headline property price increases, as speculative activities will be discouraged.

Meanwhile, the new real estate supply towards the end of the year will tilt the supply/demand balance.

Odds for further tightening may ease

If the latest measures do succeed in lowering real estate prices in the next three months, the need for further tightening - in the form of a rate hike or credit tightening - should be lower.

However, recent anti-bubble policies could have some unwelcome side effects on the economy.

The policies are blunt instruments and may well inflict temporary pain on some parts of the economy and on the stock market.

Nevertheless, China's GDP will likely sustain a growth of 9-10 percent this year, just slightly lower than the 11.9 percent growth achieved in the first quarter.

Beijing remains focused on shifting the economy onto a more sustainable footing, by putting more emphasis on domestic consumption.

Indeed, the significance of domestic consumption as a key government focus was reiterated at the annual meeting of the Chinese National People's Congress in March. The policies that were spelled out for 2010 in this area are absolutely favorable for the consumption sector.

Several policies, including subsidies to rural buyers of electronic appliances, the "old-for-new" swapping program for electronic products and subsidies for agricultural machinery purchases, were extended.

Other policies - such as the "go rural" policy for cars, which improves the affordability of cars for rural residents through subsidies and reductions in social insurance premiums for low-income families - have been extended as well.

Meanwhile, there are also new initiatives included a pilot program in five cities for purchases of electricity-driven cars by individuals.

The policies that have been announced reaffirm our positive outlook for consumption sectors, particularly consumer electronics, Internet, agriculture, healthcare and cars.

The confidence in this theme has been supported by the up-tick in the latest reading of the Chinese consumer confidence index. Any negative effect on consumer confidence that might develop as a result of the property crackdown will come with a time lag.

With the brakes being applied to sectors such as banking and property - which are also having a knock-on effect on areas such as commodities, and while the accelerator is still being pressed to the floor for areas linked to domestic consumption, China is becoming a two-speed market.

One implication of this environment is that selecting the right investment themes has never been more important.

Another is that if the market as a whole moves sideways - as we expect - domestic consumption stocks should do better.

Victoria Mio is the lead portfolio manager of Robeco Chinese Equities, a senior portfolio manager and a member of the Asia-Pacific team. The opinions expressed are entirely her own.

(HK Edition 05/06/2010 page2)