In with a Whisper - Out with a Bang
Author: David Chao (Global Market Strategist, Asia Pacific)
At the beginning of this year we made a strong case for China equities as an attractive asset class.
In the last trading day of the quarter, the CSI 300 roared to a +3.8% close, capping an already impressive +28% first quarter performance, marking it the best performing national equity market in the world and the best performing quarter for the index since 2014.
The Chinese bond market meanwhile also had an impressive quarter with 10-year government debt falling toward 3% yield as foreign investors continue to show interest for China’s onshore $13 trillion debt market – ahead of next month when Chinese bonds will start being added to the Bloomberg Barclays Global Aggregate Index.
A confluence of positive news items have supported Chinese assets in recent weeks; the Federal Reserve detailed a halt to rate hike due to domestic inflationary pressures being lower than expected, while continued constructive dialogue between the US and China on the trade war front (particularly around technology transfer) and expansionary monetary and fiscal policies by Beijing have shown impressive signs of combating the decelerating economy.
Outlook
Despite the recent run-up in equity shares, current valuations still remain below historical multiples and we remain bullish on the Chinese economy and the market due to strengthening economic and earnings fundamentals as well as an ameliorating macro environment.
This position is supported by recent economic data, which have been better than market expectations. Fixed-asset investment grew faster in January and February than in 2018, while retail sales rebounded noticeably in February. The latest China Beige Book indicated improvements across hiring, investment and availability of credit; this has helped to offset some weaker readings in the widely-watched purchasing managers’ index in January and February.
On the other hand, the most recent Q4 earnings have been a mixed bag. While offshore Chinese companies have on aggregate beat earnings expectations for the previous quarter, most onshore Chinese companies have slightly missed earnings and revenue estimates in the single digits. We still think that the 2019 earnings estimates need to be mollified and modeled for a weaker first half, with second half expected to come in much stronger.
The Chinese regulators will likely keep a very close eye on the recent bull-run of A-shares, given that the market is heavily retail-dominated and authorities are keen to ensure stability. The Chinese market has experienced two equity bubbles in the past ten years, the most recent one in 2015 – and regulators were quick to tame the market. We think that if equities continue their steep momentum-based run, the Chinese regulators will step in a measured fashion to ensure a more tempered market.