Worst could be over for Chinese stocks as analysts stop slashing estimates

String of better-than-feared results by internet giants suggests some investors were too pessimistic on the outlook for earnings

The market is turning increasingly bullish on the prospects for Chinese stocks amid easing virus curbs and a slew of policy measures to stimulate economic growth. Reuters

A stabilisation in earnings expectations is adding to optimism that the worst may be over for China’s beleaguered stocks.

Analysts have stopped cutting forward estimates for MSCI China members, after slashing them by 10 per cent since early March, figures compiled by Bloomberg show. Goldman Sachs Group and China International Capital expect profits to rise for the benchmark in the second half of this year.

And a string of better-than-feared results by internet giants including Alibaba Group Holding and Baidu ― which led to double-digit gains in their shares ― suggests some investors had become too pessimistic about the outlook for earnings.

The stabilising profit outlook adds ballast to the shift in investor sentiment that allowed Chinese stocks to break a six-month losing streak in May, outperforming global peers in the process. Easing virus curbs and a slew of policy measures to stimulate growth have brought foreign investors back to the market and strategists are turning increasingly bullish on the prospects for stocks.

“Multi-year-low valuations, increasingly supportive government policies, some companies reporting better-than-expected earnings” and a relaxing of Covid lockdowns is helping China bulls, said Jian Shi Cortesi, a portfolio manager at GAM Investment Management in Zurich.

A bullish argument for Chinese equities now looks more solid compared with the unfounded optimism that prevailed at the start of the year, when many on Wall Street called a bottom only to see stocks slide further. The MSCI China gauge has fallen 18 per cent in 2022 as Covid lockdowns hurt an already-weak economy. It is down over 45 per cent from a February 2021 high.

In recent weeks, Amundi, AllianceBernstein, UBS Global Wealth Management and Citigroup have become more optimistic on Chinese shares as Shanghai emerges from a lockdown. Meanwhile, Chinese officials have vowed to enact steps to boost growth following Premier Li Keqiang’s recent call to avoid an economic contraction this quarter.

“We think the odds of a gradual equity price recovery in China are on a better footing this time around,” said Aninda Mitra, head of Asia macro and investment strategy at BNY Mellon Investment Management in Singapore.

To be sure, buying China remains a brave call for some. Profits at Chinese industrial entities shrank in April for the first time in two years as Covid outbreaks and lockdowns disrupted factory production, transport logistics and sales.

Sceptics will be scrutinising the strength of any economic rebound and watch if infection numbers can stay down with the resumption of normal life. They will need verification of any recovery through macro data such as loans, manufacturing and trade.

For Goldman strategists, full-year consensus earnings estimates are still too high and sectors such as pharmaceutical, technology hardware and telecoms look particularly vulnerable. But they see a turning point for forecasts after the current quarter ends.

“Sequential earnings growth should start to improve in the third quarter alongside the likely rebound in economic momentum,” a team including Kinger Lau wrote on Thursday. A model based on the recovering economy would point to 4 per cent year-on-year EPS growth in third quarter, likely up from a 4 per cent decline in the second quarter, they wrote.

But demand for Chinese exposure is returning. Global funds bought Shanghai and Shenzhen stocks via trading links for a fifth straight day on Thursday, pushing year-to-date flows into positive territory for the first time since early March. And speculative interest in buying the dip has surged.