The year 2024 has been marked by significant volatility in China's equity markets. In January, a meltdown caused by derivatives led to a decline in Chinese stocks on both the Shanghai and Shenzhen Stock Exchanges, impacting markets in Hong Kong and US-listed China ADRs as well. This event was initiated by low investor positioning in Chinese equities. As major index levels in Hong Kong and Mainland China were reached, triggering the liquidation of index futures, there was a lack of buyers to offset the selling pressure, resulting in market downturns.
However, on 24th May, China's CSI300 equity benchmark reached its highest level in eight months, standing at 3,601.48, marking a 4.97% increase since the beginning of the year. Wendy Liu, JP Morgan's Chief Asia and China equity strategist, forecasts that the index will reach 3,900 by the end of the year, highlighting that the Chinese market remains relatively inexpensive compared to other markets in the Asia Pacific region.
1. Return of Foreign Investments
The decline in January was partially attributed to investors' neutral or underweight positions in Chinese equities. Initially, US investors were quick to reduce their exposure to China due to concerns over Trade and Technology Wars, as well as China's regulatory actions on internet companies and its zero COVID policy. Following this, European investors trimmed their holdings amid geopolitical uncertainty sparked by Russia's invasion of Ukraine.
However, signs that the inflow of foreign investments returning are rising. Goldman Sachs recently increased its targets for both the MSCI China Index and the CSI 300 Index by at least 5 percent, citing reduced tail risks and optimism regarding earnings. UBS and HSBC also anticipate further gains, attributing the rally to policy support and attractive valuations.
According to Goldman, historical data supports the continuation of the upward trend. Analysis of the past two decades indicates a 60 percent probability of stocks extending gains after entering a bull market, with an average peak of 35 percent in the subsequent six months.
Meanwhile, it is anticipated that numerous investors focusing on Asia, who have previously favored India and Japan, are becoming apprehensive about India's elevated valuations and Japan's persistent currency depreciation. Consequently, China's equity market may see an influx of investments as investors consider reallocating profits from high-valuation markets to those with lower valuations.
2. New Shareholder-Friendly Policies
On April 12, the State Council released "9 Key Points" aimed at enhancing China's capital markets. This is an uncommon occurrence as the State Council, China's highest political body analogous to the President's cabinet in the US, typically refrains from commenting on market matters. The measures outlined include efforts to regulate the issuance of initial public offerings (IPOs), incentivize companies to distribute dividends and enhance their corporate governance, as well as encourage the allocation of more funds from banks and trusts into equities.
3. Consumer Confidence is Slowly Improving
Consumer confidence is gradually improving, although Chinese households still maintain a high savings rate historically. Utilizing these savings could potentially provide a substantial boost to the economy.
China's economic cycle is showing signs of improvement, with Q1 2024 GDP surpassing estimates at 5.3%, a significant increase of +1.6% compared to Q4 2023. The Citi Economic Surprise Index for China has been steadily rising since the beginning of the year, indicating a positive trend after a decline in 2023.
While consumption is rebounding, it remains focused on services like travel, as reflected in the Q4 2023 financial results of restaurant chains and travel agencies. Alibaba's online travel platform, Fliggy, reported a doubling of outbound travel bookings during the 2024 holiday compared to the previous year.
Policy support for consumption has been gradually increasing, with the government announcing additional incentives for the purchase of large items such as automobiles and home appliances. This indicates the government's strong interest in stimulating economic recovery.
4. Severely Undervalued Sectors
Despite low valuations, certain sectors in China have the potential for continued outperformance, driven by improving earnings. In the first quarter of 2024, China’s GDP grew by 5.3% year-on-year. Several years ago, a statistic like this would have garnered little attention, but now it's making headlines as it underscores the resilience of the world's second-largest economy following a prolonged period of challenges.
Over the past three-and-a-half years, the Chinese stock market has consistently lagged behind global financial markets, including other emerging markets. A pervasive sense of pessimism currently surrounds the Chinese stock market.
The signs of undervaluation are evident. One example would be Alibaba (NYSE: BABA), a company that has long attracted investor attention, has seen its performance closely mirror the lackluster performance of the broader market.
However, recent analysis of Alibaba using InvestingPro indicates an impressive rally of over 8% in the past three months; and analysts suggest that this upward movement could be just the beginning.
InvestingPro's Fair Value calculation, which is based on 14 recognized investment models tailored to Alibaba's characteristics, suggests that the stock is currently undervalued. There is a growth potential of more than +57% from its closing price of $80.60 per share on May 28.
Furthermore, analysts agree about the bullish trajectory Alibaba could follow over the next 12 months, with the stock's target price forecasted to exceed $105.
Qualified Foreign Investor (QFI) Scheme
There are many ways for foreign investors to invest in the Chinese Markets. Investors can choose the route the fits their specific needs best.
First introduced in 2002, the Qualified Foreign Institutional Investor (QFII) program was the initial access channel for foreign investors. In 2020, it was revised by merging the previous QFII and Renminbi QFII (RQFII) versions into the Qualified Foreign Investor (QFI) program. Typically utilized by larger institutions such as sovereign wealth funds and asset management firms, QFI offers a wide-ranging appeal due to its comprehensive coverage of both equities and fixed income markets. Additionally, it stands out as the sole avenue for accessing A-share IPOs and onshore commodity futures.
Learn more about how you can access China’s market through the QFI Scheme here.
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