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Last week’s surge in Chinese equities marked the strongest weekly performance since 2008 for the Shanghai Shenzhen CSI 300 index, following stimulus measures introduced by the country’s central bank and regulators. The combination of monetary, fiscal, and direct market support has sparked optimism for a continued upward trajectory, though investors are questioning the sustainability of the rally and how best to capitalize on it.
Policy Follow-Through Will Be Key
According to Gavekal Dragonomics, the strength of the rally depends on whether policymakers deliver on their recent promises of fiscal and monetary support. Historically, China's stock markets have oscillated between significant gains and losses. Of the five major rallies in the last 20 years, three were driven by government stimulus, with trough-to-peak gains of 50-100%.
“The stimulus-driven rallies had trough-to-peak gains of 50-100%, so if Chinese equities are now starting another such rally, then there should still be plenty of upside even after the recent jump,” Gavekal said in a note.
Challenges and Modest Stimulus So Far
The bullish scenario hinges on rapid and decisive policy implementation, as China’s economy faces challenges such as weak labor markets, sluggish consumption, and declining export growth. The People’s Bank of China (PBOC) recently cut policy rates by 20 basis points, and expectations are high for a more robust fiscal package, potentially reaching RMB2 trillion in new debt.
New Market Mechanisms Introduced
The PBOC has also introduced a RMB500 billion swap facility for institutional investors and a RMB300 billion refinancing facility to support stock buybacks. These mechanisms aim to create a more aggressive "China put" in the market, offering additional support.
Market Driven by Expectations
Gavekal notes that much of the current rally is driven by shifting expectations rather than concrete stimulus. The central bank’s support for corporate buybacks could significantly increase market liquidity.
Investment Focus: Onshore and Cyclical Stocks
In terms of investment strategy, Gavekal suggests focusing on onshore stocks, which have historically outperformed offshore stocks by 20-40% during stimulus-driven rallies. Among onshore stocks, Shenzhen-listed equities have consistently outperformed Shanghai-listed ones.
Sector-wise, cyclical industries like industrials, materials, and consumer discretionary have seen outperformance by around 10% in previous rallies. Real estate developers are also positioned to benefit if housing policy changes are enacted, as recently hinted by the government.
