With real estate on the mend and consumption upgrade strong, bull run in sight

Starting July 25, the Shanghai Composite Index, China's benchmark stock barometer, rose 3 percent in two weeks. The daily trading value at the Shanghai and Shenzhen bourses has since reached 1 trillion yuan ($139.2 billion). "Technically and emotionally, the A-share market will be more upbeat in the second half of this year," said Chen Li, chief economist of Chuancai Securities.

These days, there are many others in China, including foreigners, who share Chen's optimism. To be sure, the upbeat mood is not limited to equities.

There are hopes of a turnaround, if not a rebound, in the debt-laden real estate industry. What's more, consumption across industries is seen set for a further round of upgrade. Companies' profitability will further recover. Overall, macroeconomic growth will fare better in the second half on the back of policy support, experts said.

All this confidence has been emerging amid lingering concerns about external uncertainties and unsteady recovery from the impact of the COVID-19 pandemic. What's going on?

On July 24, a day before the SCI began its ascent, the Political Bureau of the Communist Party of China Central Committee decided that more efforts should be made to invigorate the capital market and boost investor confidence.

What followed next was a series of moves to give a concrete shape to the leadership's guidance.

For instance, on July 25, the China Securities Regulatory Commission said policies should be implemented comprehensively to facilitate investment, financing and trading.

Chen said the average valuation of the A-share market, with an average price-to-earnings ratio of about 13 times for Shanghai-listed companies, is at a relatively lower level, compared to historical data. More foreign capital inflows can be expected in the following months via the northbound leg of the stock connect program linking the Shanghai, Shenzhen and Hong Kong bourses, he said.

"The A-share market's overall capital supply will be sufficient in August, as the People's Bank of China, the country's central bank, had said earlier this month that liquidity shall remain reasonably ample in the second half of the year," Chen said.

The troubled real estate industry, whose leading names are A-share market heavyweights, also seems set for a recovery. On July 28, the Ministry of Housing and Urban-Rural Development said that strong support will be given to satisfy both inelastic demand from first-home buyers and demand from existing homeowners seeking to buy better homes as part of consumption upgrade.

The ministry said down payment ratio and loan interest rates for first-time homebuyers will be lowered. Tax will be exempted for those who sell existing homes to fund purchase of better homes.

Mou Yiling, a strategist at Minsheng Securities, said the expected A-share recovery will likely be led by companies whose fundamentals were impaired in the past few years but are now looking a lot better. Real estate companies and financial services providers are among them — and their recovery "should by no means be overlooked", he said.

On July 31, the National Development and Reform Commission, the country's top economic regulator, announced that more measures will be rolled out to facilitate the recovery and expansion of consumption. Automotive, tourism and electronics industries, among others, were mentioned in the NDRC announcement, suggesting consumption potential in these areas will be unleashed.

Sheng Songcheng, a professor at China Europe International Business School and former director of the PBOC's statistics and analysis department, said revived consumption is of utmost importance to China at this moment, for pent-up household consumption will reduce companies' investment demand. A weaker investment appetite will weaken demand in the job market, exerting further negative impact on incomes and consumption.

Xun Yugen, chief economist of Haitong Securities, said he believes that consumption will be one of the major focus areas for A-share investors in the second half.

The annual growth rate of China's retail sales of consumer goods increased to 9 percent in 2019, but plummeted to a range of 4 percent to 5 percent during the pandemic. As economic activities recover and people's life is restored to its normal rhythm, consumption data will return to the pre-pandemic level. That would mean investment opportunities in the short term, said Xun.

From a longer-term perspective, consumption upgrade will accelerate when GDP per capita is between $10,000 and $30,000, as shown by the experience of developed economies. China's per-capita GDP at $13,000 happens to fall within that range. Therefore, consumption growth will last longer, he said.

Consumption-related A-share companies are mostly undervalued at present. Mutual fund companies have not directed a large proportion of their capital to these companies. The latter's lower valuations and expected capital allocation by funds could create many investment opportunities, Xun said.

Foreign investors are also expressing more optimism about the A-share market performance in the second half, observers said.

Lou Chao, consumption analyst for Morgan Stanley for China, said mass consumption demand in China will improve in the second half. This will benefit travel and experience-related categories, as well as basic consumer goods.

The majority of consumption-related companies that are listed in the A-share market have a presence in the categories mentioned above, and they are currently undervalued, she said.

The external environment is also improving, with the slowdown of interest rate spikes in the United States seen as one of the major positives.

Although the US Federal Reserve in late July raised the target range for the federal funds rate by 25 basis points to 5.25-5.5 percent, the highest level since early 2001, market expectations are the US interest spikes that started in early 2022 will soon end.

Seth Carpenter, global chief economist for Morgan Stanley, said the Fed may start to lower interest rates from March 2024.

Cai Rui, a researcher at BOCOM International, said an end to US interest rate hikes will help boost the valuations of risky assets globally, and the A-share market will be no exception.

The renminbi has become more buoyant as the market expects an end to the latest rounds of US interest rate spikes, said Chen of Chuancai Securities. A stronger RMB has already introduced more northbound inflows, and this trend will continue in the following months, he said.

Northbound capital has reported a net capital inflow of over 230 billion yuan at the end of July, exceeding the whole-year figure of 2022.

But experts also pointed out that China's improving economic fundamentals would be the major pillar upon which will rest a more bullish performance of the A-share market.

China's GDP grew 5.5 percent year-on-year in the first half, higher than the whole-year target of 5 percent. But, Yang Delong, chief economist of First Seafront Fund, said economic recovery in the second quarter was weaker than expected, suggesting more policies to boost economic recovery may be needed.

Li Xunlei, chief economist of Zhongtai Securities, said China has managed to register a seemingly perfect economic growth curve over the past two decades via counter-cyclical adjustments. But there is still room for further improving the quality of China's economic development, taking the stock market performance as an indicator. Over the past 20 years, the A-share market has somehow remained flat.

While GDP is an aggregate indicator, stock indexes indicate quality. In this sense, more importance should be attached to the capital market in the future, as per the top leadership's guidance on July 24. Such an approach will help China to attain its goal of high-quality economic development, said Li.

Meng Lei, China equities strategist at UBS Securities, said he is more positive now that China will likely reach its full-year GDP growth target.

Profitability of companies listed in the A-share market will likely increase by 10 percent this year by combining the nominal GDP growth rate, performance of major economic indicators such as the consumer price index and the income growth rate of non-financial sectors. Such companies' profitability will be the major driver of the A-share market in the next few months, he said.

Meanwhile, Chinese entrepreneurs' confidence that UBS Securities has been surveying every six months since 2017, has come in at a relatively higher level in the latest poll. The company owners' optimism shows their positive outlook on China's economic recovery, which will support the 10 percent profitability increase, said Meng.