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Chinese consumer stocks should be bought even if the overall market recovery slows
Almost as quickly as China’s stock rally happened, several investment analysts were quick to point out its weaknesses. “China’s recent rally has not been justified by fundamentals,” emerging market strategists at Citi said in a note on Friday that downgraded China while upgrading India. The company is overweight Internet, industrials and technology in China, but is neutral on auto and general consumer stocks. Among sectors, consumer discretionary stocks have the highest expected EPS growth this year, at about 29%, the Citi report said. After a tepid start to 2024, the MSCI China index is beating not only emerging markets but also the S&P 500, with gains of nearly 11% year-to-date. “Although it looks like a big recovery, it is not broad-based,” said Ding Wenjie, investment strategist for global equity investment at China Asset Management Co., according to a CNBC translation of his Mandarin comments. “The capital raise is not as large as we expected,” she said, noting that hedge funds, rather than long-term-only funds, were doing most of the buying – mainly in Hong Kong-listed consumer discretionary names. in the Internet technology sector. MSCI China’s top holdings are Hong Kong-listed shares of Tencent and Alibaba, which have recently increased share buybacks with their extra cash. “Our strategy has always placed great importance on free cash flow,” Ding said, noting a defensive aspect and how recent government capital markets policy has emphasized companies’ ability to repurchase shares. Investors in China are increasingly focused on free cash flow, a profitability indicator that reflects how much money a company has generated, excluding operating expenses. The money can be used to repay creditors or give dividends to investors. Such signs of financial health are important in an economy whose growth is slowing after years of rapid expansion, China Merchants Securities highlighted in a webinar on financial platform Wind Information last week. In an environment of moderating demand, relying on high levels of capital expenditure can no longer generate significant returns, the securities firm said. Now it’s focused on finding industry leaders with high free cash flow. Future Earnings Investors will soon get details on the financial performance of the best-known names. Tencent and Alibaba are scheduled to release their quarterly earnings on Tuesday, while Baidu is expected to release its results on Thursday. Hong Kong-based AlphaHill Capital specifically looks for Chinese consumer names with free cash flow growth, said Siliang Jiang, partner and portfolio manager at the firm. He noted that the narrative surrounding China may have become significantly darker over the past five years, but he does not expect China to repeat Japan’s “lost decades” due to its much larger market, which can absorb the cost of the investigation. and development. Jiang expects the Chinese consumer to start recovering in the second half of this year or next. There are already some green shoots. China’s “Consumer Confidence Index (CCI) has risen over the past 9 months despite falling property prices and ‘household balance sheet recession’ fears. That said, the current CCI reading at 89 is still well below pre-COVID levels by ~120,” Bank of America analysts said in a late April report. “We advise investors to focus on companies that can create value for consumers – value for money, functional value and/or emotional value,” the report states. Two of your picks based on positive free cash flow are Li Auto and New Oriental Education. Based on their future cash flow expectations, analysts also like Beijing-Shanghai high-speed rail operator, a state-owned company listed in Shanghai. They noted its potential to increase prices while benefiting from a post-Covid surge in travel. Last week, Chinese media reported that many of China’s high-speed train operators will increase ticket prices by nearly 20% for certain routes, which include trips around Shanghai. State-owned transportation and utility companies are able to increase their profit margins by raising prices in China’s current economic environment because they have monopoly power, said Liqian Ren, quantitative investing leader at WisdomTree. The company has an ETF to track non-state Chinese companies. “How long will this tactical recovery last? [last] It probably depends on the economic data in the coming weeks,” she said. “Considering that China is not stimulating much, this means that the Chinese economy is not as bad as [much] of negative sentiment,” Ren added. China is expected to release key economic data on Friday local time on May 17. Analysts polled by Reuters expect a 3.8% increase in retail sales in April compared to previous year – CNBC’s Michael Bloom contributed to this report.