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Kevin Gin: Chinese Bull Run To Continue After Short Pause
Aspire, Thought Leaders | 18 May 2015
By: Kevin Gin, CFA
Articles (5) Profile

Chinese Policies Impact On Market

The question on most investors’ minds is whether the current pause in the Chinese stock market is an opportunity for investors to add to their positions or whether it is the start of a correction as the market has run ahead of expectations.

Whilst economic growth is expected to slow down to 7.0 percent in 2015 and will settle at a new normal, China’s economic growth remains high relative to other countries.  Furthermore, recent policy shifts such as lowering reserve requirement ratios, reduction of the People’s Bank of China’s (PBOC) benchmark one year benchmark lending rate (90 basis points (BPs) in the past six months to 5.1%), the Shanghai-Hong Kong connect etc has brought back confidence amongst investors.

But the question remains as to whether China’s stock market performance can continue. And whether the equity market has run ahead of expectations.

Source: Reuters

Notes: 2823 HK, (iShare FTSE A50 Index ETF), 2828 HK (HSIM HSCEI), 2846 HK (iShare CSI300 A Share Index ETF)

Whichever way we dissect the Chinese market, share price performances of specific companies have not been equal across the board.  The main beneficiaries of the last 12 months have been companies that could benefit from “government policies”, be it companies in the technology/e-commerce spare, pollution control, water treatment, material science, alternative energy, electric cars and robotics.

Investors have shown interest in other industry clusters like infrastructure plays, State-owned Enterprises (SOE) reforms, real estate and other capital intensive industries.

However, something unique just to China: a dual market for some of the shares of its listed companies.  So far fund flows have entered at a much faster rate into China’s A-shares market as compared to the H-share equivalents listed in Hong Kong.  So much so that the A- and H-share premium has widened, possibly creating an opportunity for some investors.

Source: Bloomberg

Source: Reuters

China recently announced a 6.4 percent Year-on-Year (YoY) decline in exports for April, disappointing market sentiments and led to renewed expectations that the Chinese government would further relax its policies to stimulate economic growth.

But export numbers do not give the entire picture as we need to consider both export and import numbers. In fact, China’s imports YoY growth for April collapsed 16.2 percent, declining much faster than exports.

The net effect is yet another positive trade balance with the rest of the world. But as long as investors continue to view information flows in a slant, there will be expectations of more policy relaxation, which could drive China’s equity markets even higher.

Source: Bloomberg

Potential Risks Investors Should Look Out For

The biggest investment risk in China is that of policy.  Any early indication that deflation or growth is under control will most likely result in tightening of the recent policies.  This would put an abrupt halt in market expectations, and a sudden break on what has been a strong bull in China’s capital markets.

So far, the equity market has been the primary beneficiary of policy relaxation as the markets expects a turnaround in industries in the next 12 months.  Given the recent run up in China’s equity market, valuations are not exceedingly cheap.  The Shanghai Composite index is trading on 21.3 times earnings, whilst its quasi Hong Kong counterpart is trading at 10.2 times.

Whilst a lower risk entry into the China market could be through the Hong Kong listed counterparts, in the short term, earnings must catch up with the recent stock market rally so that expectations are met.

There might be some disappointments at least in the short term, but the wheels of motion have been set by policy makers and corporate earnings will recover and grow in the next half, if not then the subsequent half.  We have entered into a “secular uptrend”.

Kevin Gin will be speaking at the upcoming Shares Investment’s MYR 2015. Click here to find out more!

Click here for a special promotion price of a bundle including the Shares Investment Conference Ticket (full-day access) and Dr Chan Yan Chong‘s book 《机不可失—沪港通航的跨境机遇》!
Kevin Gin, CFA focuses on valuation anomalies across certain industries and geographies. Kevin brings with him more than 25 years of investment experience.

Please click here for more information about this author.

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