Investors cheered President Donald Trump’s plan to postpone additional trade tariffs, with the onshore CSI 300 equity index surging 5.95% on Monday, its best single-day gain since July 2015, and the yuan testing a fresh seven-month high against the dollar. The CSI 300 is now back in bull market territory, and is on track for an eighth straight weekly gain, its longest consecutive weekly winning streak since 2015.
We had previously anticipated Trump extending the current trade truce past his 1 March deadline, and have maintained a positive stance on Chinese equities. Even with this strong rally, we see several reasons to remain positive:
* Valuations are still below historical averages, and sentiment is recovering off a low base. Onshore China equities are trading at a 12-month-trailing P/E of 11.2x, against a post-2010 average of 12.6x. The offshore MSCI China index is trading at 10.9x its forward P/E, below the long-term average of 11.7x. Margin financing onshore has risen to 8%, a step up from the 2%–3% average of the last three years, but well below the peak rate in the high-teens during 2014–15.
* The People's Bank of China’s quarterly report last week crystallized a more relaxed stance, with the word “neutral” disappearing from its policy description for the first time in a decade. We predict another 100bps to 200bps in reserve requirement ratio (RRR) cuts, with each 100bps releasing around CNY 1.5tn of liquidity into the financial system. Additional tax cuts and fiscal policies have yet to roll out, and may be announced in early March.
* Anticipated wider MSCI A-share inclusion could trigger USD 60bn more in foreign net buying of A-shares, which could push cumulative northbound flows up to USD 160bn this year. This backs our preference for A-shares over offshore China equities in our onshore China strategy.That said, investors must continue to monitor a number of risks. The National People’s Congress on 5 March should reveal more policy relaxation, but could also act as a reality check on the market’s expectations for stimulus measures. Consensus earnings growth for China equities remains near 13%, suggesting downside risk heading into first-quarter results season. And while Trump has announced he will delay tariffs, any final trade bargain is contingent on both sides inking a deal that entails significant compromises.