Has China’s market run ahead of expectations?

There may be concerns in the short term but earnings could revive due to policy measures





Once again, China has caught the imagination of the world, with China’s capital markets, as represented by the country’s CSI 300 index, rising by over 120 per cent in the last 12 months.

Whilst economic growth is expected to slow down to 7 per cent in 2015 and settle at a new normal, China’s economic growth remains high relative to other countries.

Furthermore, recent policy shifts such as lowering its reserve requirement ratios, reduction of the central bank’s one-year benchmark lending rate by 90 basis points in the last six months and the Shanghai-Hong Kong connect have brought back confidence amongst investors.

Not broad-based

Whichever way we dissect the Chinese market, share price performance has not been across-the-board.

The main beneficiaries have been companies that could gain from government policies. Other industry clusters that gained are infrastructure plays, SOE reforms, real estate and capital-intensive industries. Unique to China is a dual market for some of its listed companies. So far, fund flows have entered at a much faster rate into China’s A shares as compared to the H-share equivalents listed in Hong Kong. The A-H share premium has widened, possibly creating an opportunity for investors.

China recently announced a 6.4 per cent year-on-year decline in exports for April.

But export numbers do not give the entire picture — import growth for April collapsed 16.2 per cent, declining faster than exports. But investors continue to expect policy relaxation, which could drive China’s equity markets even higher.

Key positives

There is no doubt that China’s economic growth — 8.5 per cent average growth rate between 2010 and 2014 — has been unprecedented.

China’s economy is witnessing a tectonic shift — from an economy that is largely secondary in nature, to one that will be tertiary driven. Given the recent run-up, valuations are not cheap and earnings must catch up. The Shanghai Composite Index trades at 21.3x earnings, whilst its Hong Kong counterpart is at 10.2x. A lower risk entry into the China market could be through the Hong Kong market.

The biggest investment risk in China relates to policy. Any early indication that deflation or growth is under control will most likely result in a tightening, which will halt the strong bull run. There might be some disappointments 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.

Some of the recent policy initiatives include relaxation of the one child rule , development of the Asian Infrastructure Investment Bank, New Development Bank, introduction ofmore Free Trade Zones and China’s “New Silk Road” vision. These strategic initiatives form the basis for China’s prospects in the long term.

The writer is Founder and Principal of Alpha Capital, Singapore

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