Aidan Yao

Macroscope | Never mind the dip, China’s reopening-driven stock market rally is the real deal

A pause for profit-taking after weeks of gains is not surprising, and the underpinnings of China’s equity market are solid enough to support further recovery

Markets might need confirmation of a genuine earnings recovery to continue the ascent, so investors should continue to monitor markets closely

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Shoppers in the Guanqian Street shopping area in Suzhou, Jiangsu province, on January 25. China’s Lunar New Year travel and box office figures showed promising returns, adding to evidence that the country’s economic recovery could be around for the long haul. Photo: Bloomberg

Aidan Yao

Published: 3:45pm, 8 Feb 2023

After staging a powerful rally at the tail end of the Year of the Tiger, the Year of the Rabbit has so far not delivered the continued prosperity hoped for by equity market investors. However, remember that the Hang Seng Index and MSCI China Index gained almost 50 per cent in past three months, so some profit-taking leading to a pause in the breakneck rally is not entirely surprising.

Looking more broadly, the structural underpinning of the equity market rise remains intact. From a macro standpoint, the Chinese economy is on path to a solid recovery, supported by post-Covid reopening and a multitude of policy support. With accommodative monetary and fiscal policies safeguarding growth and easing property and regulatory crackdowns removing overhanging risks, the macroeconomic environment is unequivocally supportive of risky assets.

Equity markets have started to price in these improvements, but there is room for further rerating. Valuations of onshore and offshore markets have rebounded from multi-year lows but remain below their historical averages and peer markets.

The Hang Seng Index, for example, is currently trading at almost eight times earnings, making it one of the cheapest markets in the world. To get back to average valuation, the index has to gain another 50 per cent without any earnings upgrades.

The price-to-earnings ratios of the MSCI China Index is also below average, albeit with a smaller gap than the Hang Seng Index.

Market sentiment has also recovered. Fear indicators such as the CBOE volatility index and China’s credit default swap spreads have fallen substantially in recent months as investors grew confident the Chinese economy had turned the corner. However, the absolute levels of these indicators remain above their pre-pandemic norms, suggesting room for further improvement.