China’s Rapid-Fire Stock Rally Seen Giving Way to a Slow Grind

If you didn’t buy into China’s reopening stock rally earlier, you’ve probably missed the boat.

(Bloomberg) — If you didn’t buy into China’s reopening stock rally earlier, you’ve probably missed the boat.

That’s the prognosis of Bank of America and Barclays Private Bank who say the next leg of gains in Chinese equities — if there is one — will be gradual. The reason? Economic data and corporate earnings have yet to confirm that China’s recovery is on a sure footing, and concerns persist over President Xi Jinping’s agenda.

“The rally reflecting the change in policy from zero Covid to reopening is probably behind us,” said Julien Lafargue, chief market strategist at Barclays Private Bank. Stocks need tangible proof of the economic recovery to advance further, but it may take months or quarters for data to come through, making the path ahead more likely to be “a grind rather than a jump higher,” he said.

Cracks are starting to appear in China’s stock rally after optimism about the economy’s reopening catapulted the benchmark CSI 300 Index to the brink of a bull market. As the trade becomes increasingly crowded, attention is turning back to intractable issues such as tensions between Beijing and Washington as well as the state’s control over private enterprise.

Recent moves appear to testify to the worries. The MSCI China Index has declined about 8% since climbing to a seven-month high in late January while the Hang Seng China Enterprises Index slid to the verge of a technical correction this week. 

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The declines come as data suggest that segments of China’s economy remain weak despite a rebound in consumption. While consumers have splashed out on entertainment and travel, sales of durable goods such as cars remain tepid, and the housing sector is still depressed.

The next set of figures on retail sales and industrial production aren’t due until mid-March, as authorities tend to combine numbers for the first two months of the year to screen out fluctuations during the Lunar New Year holidays.

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The recent reversal in the shares may also reflect long-standing fears about investing in China even after Beijing’s recent pivot to a more investor-friendly stance. 

Memories of years of strict Covid curbs and a relentless crackdown on internet firms continue to haunt some investors. Global equity fund managers, especially those in the US, retained their underweight position on China in January despite the pressure to chase strong gains, according to an analysis by Morgan Stanley.

“We are investing in an environment with lower checks and balances and higher consolidation of power, which we think means higher regulatory risk,” said James Fletcher, founder and Chief Investment Officer of Ethos Investment Management. He says China’s growth will surpass expectations in 2023, but believes investors should tread carefully while investing in the nation over the next two to five years.

In this respect, the National People’s Congress in March may be crucial for the outlook for Chinese equities. The gathering could set the tone for major economic policies and top officials have repeatedly called for efforts to boost growth while softening their stance toward the tech sector.

Geopolitical risks have also strengthened the case for investors to book profits. Tensions between Washington and Beijing have escalated over the US’s spy balloon claims and the two nations remain locked in a battle for supremacy in the global chip industry.

But, all this hasn’t deterred the likes of Fidelity International and abrdn plc which expect the March congress meeting to spur more gains in equities. History also suggests the rally remains intact: since the late 1990s, the Hang Seng Index has almost always extended gains if it jumped 50% from a bottom. So far, the most recent bull run has pushed the benchmark up by as much as 54%.

Still, skeptics note that Chinese stocks are no longer cheap. The MSCI China Index is trading at about 11 times forward one-year earnings, just shy of its 10-year average. That compares to 8.1 times when the benchmark was at its nadir in late October.

“The low hanging fruit is probably taken” after valuations of Chinese stocks returned to long-term average levels, said Winnie Wu, chief China equity strategist at Bank of America. Further gains depend on catalysts such as more supportive policies or reduced geopolitical tensions, she said.

–With assistance from John Cheng.

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