Are Investors Finally Warming Up To Chinese Stocks Again?

Chinese equity markets reacted favorable to improving PMI reports from China – a sign that investors are finally hopeful a sustained recovery is underway?

Chinese Stocks

The HSBC/Markit services purchasing managers’ index posted its strongest reading in seventeen months. Granted, the service sector has not been the major source of weakness for the Chinese economy. Nonetheless, investors liked it.

Indeed, the Chinese stock market has been showing signs of regained vigor of late, with both domestic and investable stocks breaking above key technical resistant levels that have been in place for years.

Chinese stocks, especially the domestic market, are notoriously volatile, driven by momentum chasing retail investors. But it is good news that the momentum is finally in a positive direction.

Overall, our China team continues to believe the risk-return profile of Chinese stocks is now positive due to a combination of depressed valuations and a strengthening growth and profit outlook.

U.S. Financials/Consumer Staples: Stick With It

Our U.S equity team continues to recommend a long financials/short consumer staples equity pair trade.

SP Financials

There are high odds of further gains in coming months as business confidence picks up, and hiring and capital spending gain traction leading to a narrowing output gap.

Importantly, the relative share price ratio has been positively correlated with the output and unemployment gaps. Financials profits benefit from reviving animal spirits, rising loan activity and increased capital formation. In contrast, consumer staples demand underwhelms at the margin as the economic recovery gains enough thrust to become self-sustaining. This message is corroborated by our relative sale-per-share models that are pointing to a brighter demand backdrop for the financials sector compared with consumer staples businesses.

In the absence of a relapse into a deflationary environment, financials will maintain the upper hand over consumer staples.