In recent weeks, developments in China were among the main business headlines. After years of underperformance compared to other major stock exchanges worldwide, the Chinese equity market experienced a remarkable rally in a very short period.
Chinese equities have performed poorly in recent years, reflecting lack of confidence in the country’s economy. Prior to the recent rally, the CSI 300 index was 45% below its all-time high of 5,877 points in October 2007.
The background to the major equity market rebound in recent weeks was the very aggressive monetary and fiscal stimulus announced by China’s central bank at the end of last month. The People’s Bank of China (PBOC) unveiled a lending facility of up to $114 billion to boost the stock market by lending to asset managers, insurers and brokers to buy equities, and to listed companies to buy back their shares. The significant injection of funds in the stock market led to renewed investor enthusiasm especially among retail investors.
On the same day, China’s securities regulator issued a document on “market cap management” – a set of proposals that will put pressure on companies whose shares are trading below their book value to take action and boost investor returns.
The PBOC also introduced lower mortgage rates for 50 million households, announced a reduction in the amount of money banks must hold in reserve deposit with the central bank to the lowest level since at least 2020, and reduced a key policy rate by 0.50 percentage points.
These measures, the most aggressive since the COVID-19 pandemic, were aimed to stimulate the Chinese economy after it became clear the country might miss its 5% GDP growth target for 2024. They focused on both the languishing stock market and to boost the ailing property market, which is still struggling from the COVID-19 pandemic and from the collapse of China’s second largest property developer Evergrande in 2021.
The response on the equity market was unsurprisingly immediate. Two of the main indices tracking Chinese equities – the CSI 300 and the Shanghai Composite index (SSE) – climbed over 8% on the day, their biggest daily gain since September 2008. The renewed enthusiasm for Chinese equities continued for a few days, with the major indices surging by over 30% in the two weeks following the stimulus announcement on September 24, and daily trading volumes hitting the highest levels in nine years.
Despite the Chinese market’s recent rally, equities still appear undervalued
The rally peaked on October 8 and became increasingly volatile during the month as caution overtook euphoria after the stimulus announcement. In fact, on October 9, the CSI 300 suffered a 7% loss – its largest daily decline in four years – ahead of a press conference by the Chinese finance ministry later that week with further details on the stimulus measures and possible additional fiscal support.
No new fresh stimulus measures were announced on October 12 but the government instead focused on measures regarding increased debt issuance to alleviate debt problems, subsidies to low-income earners and unspecified pledges to stabilise the local real estate market.
The total size of China’s stimulus package is estimated to be about $1.1 trillion, equivalent to 6% of China’s GDP. In monetary terms, the package could become the largest in China’s history, exceeding previous packages implemented during the 2008 global financial crisis and during the COVID-19 pandemic.
Analysts’ expectations for an even greater package of an additional $500 billion of economic support were based on the fact that multiple macroeconomic indicators for the Chinese economy were already showing weak signals. Recent data revealed continuous contraction of the Chinese manufacturing sector. Meanwhile, unemployment rose to 5.3% in August with jobless youth at the concerning level of 18.8%. Moreover, September inflation data confirmed the deflationary environment.
Since the pandemic, China has set itself a target of about 5% economic growth. Although GDP grew 5.2% in 2023, it is expected to edge down to 4.8% this year and 4.3% in 2025, according to World Bank estimates.
The top performing sectors since the stimulus was announced have been technology with a 29.1% gain, followed by consumer discretionary at +23.4%, as the government support for consumption reignited investors’ optimism in these sectors. Several notable names in the Chinese tech and e-commerce sectors, including Alibaba, JD.com and Tencent, exhibited significant double-digit gains.
As expected, Chinese real estate sector companies’ equity market performance also benefitted with a 12.2% gain, as the support measures were aimed to alleviate the built-up stress in China’s highly indebted real estate sectors.
Moreover, the stimulus package also positively impacted European luxury brands, such as LVMH, Hermes and Richemont, which are very dependent on China. In fact, the weakening demand in China saw a significant decline in sales by these companies during 2024. Following the stimulus announcement, the share prices of these luxury brands briefly rallied by over 15% as these measures are poised to rejuvenate consumer spending in the region.
Despite the Chinese market’s recent rally, equities still appear to be undervalued on a relative basis, with a forward price-to-earnings (P/E) ratio of just 10 times. This compares favourably to the ratios for the S&P 500 and FTSE All-World indices which stand at 24 and 20 times respectively.
Nonetheless, the key for the rally in China to continue going forward, and for the valuation discount to narrow, is dependent on the ability of this package and potential future ones to address the structural problems of the Chinese economy, namely deflation, high level of government debt and the bleak outlook for the real estate sector, which have been plaguing investor sentiment in the region since the COVID pandemic. One of the major US investment banks opined that the Chinese equity market could rise by another 20% if authorities deliver on their promises.
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