Chinese stocks back to 1997 valuations – year of Hong Kong handover

The last time China’s stocks were as cheap as they currently was in 2008, from which the benchmark index rose 83 percent in a year. Policy makers are struggling to reverse the worst economic slowdown in more than a decade, the most-accurate strategists say.

Cheapest PE since 1997

While the Shanghai Composite Index trades at 11.3 times the earnings of China’s biggest companies – a 30% discount the US and the lowest level since at least 1997, economists predict the world’s second-largest economy will however grow at its slowest annual pace in 13 years. Investors anticipate the government will lack focus on the slowdown as the Communist Party prepares for a once-in-a-decade leadership transition.

Goldman Sachs Jim O’Neill says Chinese stocks are the most attractive among the so-called BRIC nations as China’s leaders foster changes to boost consumption and reduce the economy’s reliance on exports. 

Haitong Securities Co. strategist Chen Ruiming takes an opposing stance having correctly predicted on Aug. 1 that the index would fall below the 2,000 level, says the measure is poised to drop a further 14 percent to 1,800 this year. It looks like Chinese stocks will end down for a third year, according to Bank of Communications Co.’s Hao Hong, the only forecaster among 13 strategists surveyed by Bloomberg at the start of the year to predict declines for equities in 2012. Falling interest rates and increasing copper prices — which foreshadowed the rally in 2009 — aren’t predictive this time around, said David Cui, chief China strategist at Bank of America. He sees more losses for the index. The measure dropped 0.6 percent to 2,074.42 at today’s close.

“These signals are only indicative of a market turnaround if and when there are signs of a genuine turnaround in economic growth and the prospect of sustained improvement in corporate earnings,” Shanghai-based Cui wrote in e-mailed comments on Sept. 25. “Right now, things appear to be still heading downhill and the market cannot figure out where the bottom is.”

Stock Valuations compelling

The Shanghai Composite tumbled 34 percent from its November 2010 high to 2,086.17 on Sept. 28, the most among benchmark equity gauges in 21 developing nations tracked by Bloomberg. 

The Shanghai gauge’s price-to-earnings ratio has now dropped from an average of 24 during the past decade and a 2007 high of 46, according to data compiled by Bloomberg to it’s current lowly level of just over 11 times. Whilst we would expect developing economies as they travel along their maturation profile to experience PE compression, still the Emerging Markets composite index is valued at 12.5 times profit, while the Bovespa index in Brazil, the second-biggest emerging market after China, trades for 18.8 times. Another sign of the value now inherent in China.

Jonathan Garner, chief strategist for Asia and emerging markets at Morgan Stanley in Hong Kong, sees “significant undervaluation” in China and recommends material, energy and consumer discretionary stocks that will benefit from the largest economies in the world easing monetary policies.

Shifting to Consumption

Goldman Sach Jim O’Neill says Chinese stocks are the most attractive among the so-called BRIC nations that include Brazil, Russia and India as China’s leaders foster changes to boost consumption and reduce the economy’s reliance on exports. MSCI Inc.’s Index of the largest emerging-market economies will rise as much as 20 percent next year, O’Neill, who coined the term BRIC’s.

“Going forward, the Chinese authorities are really going to ensure that the broader-income consumer, the broader middle- income groups in China are the ones that are really going to benefit most,” said O’Neill, who oversees about $700 billion as chairman of Goldman Sachs Asset Management. Consumer stocks as opposed to commodity shares will benefit most from economic growth next year, he said.

Regular readers will know that we are now resolute bulls of the Chinese market with a good overview underpinning our case on Page (44) here – http://issuu.com/spreadbetmagazine/docs/spreadbet-magazine-v9_generic.

Technical overview – weekly chart of Shanghai Composite