HSBC: China's stock market resurgence could be the start of something big

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After a relentless sell-off late last year — seeing many mainland indexes halve in a little over six months — Chinese stocks have recently found their footing.

Monotonously, and somewhat suspiciously, they have been pushing higher since hitting a multiyear low in February, buoyed by further monetary-policy stimulus from the People's Bank of China, an increase in the use of margin lending, and, of course, suspected buying from China's so-called national team of state-backed investors.

While many continue to question the fundamentals underpinning the rally, which has seen the benchmark Shanghai Composite index rise 16% in a little over a month, Steven Sun, China equity strategist at HSBC, isn't perturbed, suggesting it could be the start of an even greater move higher.

"We have a neutral view on the A-share market, with a year-end target for the SHCOMP [Shanghai Composite] of 3,200 and 3,500 for the CSI300, implying around 10% upside," Sun says.

Stock in firms listed on the Chinese mainland make up A shares.

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Though he suspects that it will be a long time before normality returns to China's stock market, suggesting volatility is likely to remain elevated this year because of factors such as high investor leverage, he remains optimistic over both the medium and long term, citing several factors that he believes will be supportive to the market.

"In the short term, the A-share market needs time to recuperate," Sun says. "We think help is at hand."

He explains:

The Shenzhen-Hong Kong Stock Connect is likely to launch before the end of the year, building on the existing link between the Hong Kong and Shanghai markets. This will introduce foreign investors to a selection of small, private companies that are the mainstay of China's "new economy". There is also a good chance that the MSCI will include A-shares in its emerging market indices in June. Lastly, improvements are being made to the listing process for the National Equity Exchange Quotation (NEEQ), a Chinese fund-raising model based on the over the counter (OTC) Bulletin Board in the US. As financing is challenging for most small and medium sized companies, more and more enterprises are switching to the NEEQ.

Fund inflows, essentially, rather than fundamental factors such as profitability and earnings growth, which he describes as "both declining."

Beyond the 10% gain Sun is forecasting for the remainder of this year, he is even more bullish about the long-term outlook, suggesting the market capitalization of A-shares could grow by 50 to 70% to $10 trillion to $12 trillion by 2020.

"Stock market returns, new equity financing, and the diversification of household deposits into financial products will be the main drivers," he says.

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