How long will the stock market euphoria continue?

The party in Chinese stocks continues. The stock exchanges on the Chinese mainland have been closed for the past few days due to national celebrations for “Golden Week”. Nevertheless, funds that invest in China stocks continued to rise steeply. Index funds that track the MSCI China national index gained around a fifth of their value in the past week.

Sentiment toward China stocks is exuberant, and China funds are a reflection of that. You invest in Chinese companies that are listed offshore, i.e. on the Hong Kong stock exchange or on a US stock exchange via an depositary receipt (ADR). Foreign investors don’t want to miss the boat and are continuing to buy China-related stocks.

Consolidation would be appropriate. The Shanghai Stock Exchange’s broad-based China index, the CSI 300, has already gained a quarter in the last week of September. It made up for the price losses of the last few months within a very short time. Even over the next twelve months, China stocks are now recording a positive performance of almost 10 percent. Hong Kong’s Hang Seng Index has also risen sharply, gaining 30 percent in the last month. Foreign investors like to get involved in the Chinese stock market through this.

Change in mood despite economic concerns

The change in mood is remarkable. After the pandemic, many investors used the acronym ABC: “Anything but China” – everything but China. Now ABC also applies, but spelled out differently: “All in, buy China”, i.e. put everything at risk, buy China. “In contrast to previous stock market fluctuations, investor sentiment regarding China has brightened significantly,” says Jeffrey Hochegger, investment strategist at Raiffeisen.

The Chinese stock market has tried to rally before. There was a countermovement at the end of 2022, but it soon turned out to be a flash in the pan. This year, too, there was an initial rally that lasted from mid-January to mid-May. The current market environment is not exactly conducive to investing in high-risk investments such as Chinese stocks: the Middle East is on the verge of total escalation. The higher oil price is clouding the economic outlook.

The Chinese economy is also not doing well. Growth is steadily slowing and deflationary trends are increasing. The important real estate sector has been in a downward spiral since 2021. State intervention has so far failed to break the vicious circle.

But the stimulus measures announced by China’s political leadership this time are comprehensive. The Chinese central bank has cut key interest rates and reduced reserve requirements for banks more than expected. Mortgage interest rates are also set to be reduced this month. These interventions are accompanied by tax stimuli and other “assertive” measures to support the real estate market.

Stimulus package is not a “bazooka”

According to Ali Masarwah, managing director of the investment platform Envestor, the lower interest rates should certainly help. But he emphasizes that in terms of fiscal policy these are just announcements. “The scope of the measures is unclear,” he says. But at least the seriousness of the situation got through to the Politburo. In contrast to the end of 2022, the Chinese leadership’s announcements are credible enough. “It’s not just the principle of hope that applies.”

Even without knowing the specific parameters of the stimulus plans, economists at Safra Sarasin bank believe that the announced measures will stabilize China’s short-term growth. But they are not enough to quickly restore economic dynamism or stop the correction on the real estate market. Even the fiscal stimulus package worth 2 trillion renminbi is not a “bazooka” by historical standards. Ultimately, they believe, a much larger package of permanent social transfers would be more effective.

But the stock markets are currently equating Beijing’s ambitions with their successful implementation. “Investors are afraid of missing out,” says Hochegger. Many have been underweight China stocks since the real estate crisis. By compensating for this underweight, a lot of capital is flowing into Chinese stocks.

Not only are foreign investors turning to China again, something is also happening on the domestic stock market. According to Ali Masarwah, Chinese retail investors are returning to the stock market. This can be seen in the sharp increase in the number of downloads of stock trading apps. In the past, observers have often commented skeptically on the involvement of Chinese small investors on the stock market and seen it as a sign of exaggeration.

Be careful with new investments in China stocks

But does it still make sense to invest in Chinese stocks now? Hochegger points out that the Chinese stock markets hit a five-year low in mid-September. “With such strong countermovements, caution is generally required,” he says. Chinese stocks are underweighted in Raiffeisen’s customer portfolios.

And this despite the fact that individual Chinese stocks that have been avoided for a long time, such as those of the online retailer Alibaba, have completed an impressive trend reversal. Alibaba shares have gained over 40 percent in the last four weeks and are clearly outperforming American rival Amazon with a gain of 7 percent.

Hochegger admits that the Chinese stock market is still cheaply valued even after the bull market. But this does not solve the problems in the real estate sector or international trade. It will also take some time for the interest rate cuts to take effect, he says: “The stock markets may be anticipating too many positive things.”

Ali Masarwah takes a less reserved stance. In view of falling interest rates in the USA, it would generally be appropriate for him to invest more in emerging market stocks, including China. This primarily refers to stocks from emerging countries in Asia and South America.

It is obvious that government-related areas such as banks and construction companies would benefit directly from the Chinese stimulus measures. Even heavily penalized technology stocks like Tencent have some potential to catch up. But Masarwah advises against targeting individual sectors. “We prefer to invest wisely in the overall market, the broader the better,” he says.