For hedge fund managers shorting Chinese financials, the past few weeks have been tough. China’s bank stocks are back in demand, and they are taking the wider equity market with them.
A couple of months ago, those same investors might well have been popping champagne corks.
In June, fears about the health of China’s economy, and specifically its banking system, reached fever pitch, prompting a dramatic slide in the equity market. Chinese financials tumbled in Shanghai and Hong Kong, with many falling to record low valuations.
But the mood has shifted again, as Beijing’s efforts to boost growth start to show results. Economic data for August – including on trade, investment and industrial output – have strengthened the view that China’s economy has stabilised.
Deutsche Bank and Bank of America Merrill Lynch are among investment banks to have upgraded annual growth forecasts.
Foreign and domestic investors have responded with buy orders. In the past five days alone, the Shanghai Composite has risen more than 5 per cent, while in Hong Kong, the Hang Seng China Enterprises index – better known as the H-share market – is up almost 10 per cent.
Indeed, over the past month in Asia, only Australia’s surging equity market has performed better.
ICBC, one of China’s big four state-backed banks, has led gains among the banks, soaring by a quarter since the end of June. Bank of China has gained a fifth.
Even small and medium-size lenders – at the heart of worries about the economic slowdown in early summer – have enjoyed renewed interest. China Minsheng, seen by many as the most exposed to the country’s shadow banking system, is up almost 20 per cent in the past four weeks.
“People are starting to talk about recovering developed markets. They want to point towards those places that will benefit from this recovery,” says Tai Hui, chief Asia strategist at JPMorgan Asset Management. “That, combined with fairly attractive valuations, has brought people into the market.”
“The banking sector is very vulnerable to a growth slowdown,” says Mr Hui. “As soon as we start to see stabilising in the economy . . . that gives people some comfort that the potential deterioration in credit quality is not going to be aggressive.”
Power-related stocks have also enjoyed a return to favour. Sinopec is up almost a third, while coal producer Shenhua Energy has added more than 40 per cent in the past three months.
With both the main index in Shanghai and the H-share market dominated by energy and bank stocks, the buying has pulled wider markets back into positive territory for the year, no longer the case for much of emerging Asia. It has helped narrow the performance gap with China’s small caps, which have soared this year.
while the worst of the investment gloom has lifted, few believe a lasting turnround is under way.
Nomura’s China economist Zhang Zhiwei describes the recent recovery as strong, but “unhealthy and unsustainable”, due to a continued reliance on credit growth and investment to stir activity.
Ting Lu at Bank of America-Merrill Lynch expects the rebound to be “M-shaped”.
“I do worry that we haven’t solved anything in China at this point. We still need to see if this is really sustainable,” says Andrew Swan, head of Asian equities at BlackRock.
He believes the government may be forced to act if credit growth continues to surge. “If there is further tightening, we’ll see if there really is underlying strength in the economy.”
Should growth momentum tail off once more, concerns around the banking system and its exposure to rising bad debts could quickly return. Despite the recent rally, most of China’s banks trade at a price to book ratio of less than one – an indication that the market does not have faith in a company’s stated assets.
Price to earnings ratios of the banks also remain low. Bank of China currently trades at less than 6 times expected earnings, up from less than 5 in June, but still an indication that investors remain unconvinced about the sector’s prospects for growth.
In the meantime, investors’ focus is likely to shift from data to politics. In November, China’s top leaders gather for their annual policy meeting, at which they are expected to unveil economic plans for the coming year.
“If nothing concrete comes out of that around structural reform, then I think the market will start to worry again,” says Mr Swan.