Things look up for Chinese equities

The Chinese economy will likely rebound in 2023, as the government has pledged to prioritise growth and restore confidence after three years of its ‘zero-covid policy’. We will likely see a revival in domestic consumption from the persistently muted levels of the past three years, partly offsetting the drag from slowing exports, while China’s property sector will likely stabilise on more policy support and improved household confidence.

But while the accelerated re-opening process may mean it is faster than we previously expected, there are doubts about the strength of China’s recovery. Macro policy will likely continue to be supportive with additional rate cuts and government debt issuance—but the space for large-scale stimulus could be limited.

As for Chinese equities, several waves of negative events impacted sentiment from 2020 onwards, leading to a major bear market for offshore and onshore indices. However, the main drivers of this bear market are rapidly fading, with the lifting of China’s zero-covid policy a major catalyst.
While valuations of Chinese equities (especially offshore) have sharply rebounded since last November, they remain reasonable (on a sector-adjusted basis in particular). We therefore see room for further expansion, if not an overshoot.

Earnings revisions remain negative overall but growing upward revisions in consumer-related and other sectors bode well and, if sustained, should further support market performance, in our view. We also note that earnings growth expectations in China are among the highest across emerging markets. 

Overall, we see both fundamental and technical indicators as conducive to a continued re-rating of Chinese stocks. Our preference at this stage goes to offshore indices due to their make-up (they are more geared to-wards discretionary spending), light international positioning and a still-high valuation premium for A (onshore) over H (offshore) shares. But we are keeping a close eye on any potential reversal in this trend as, in the long run, A-shares offer better exposure to themes and industries aligned with the policy priorities of the Chinese authorities.

We are raising our 2023 year-end target for the MSCI China to HKD76, which implies a total return of 7% (in USD) based on current prices.