Look for market-boosting measures to continue as the leadership finds itself with strong political capital on the back of high GDP growth and low inflation, while cash from export earnings supplies the liquidity to support financial market reforms.
No cakewalk
Strong policy support will motivate fund flows into the domestic A-share markets, but this does not promise a smooth ride for investors. China's brokerages have been pushed to the edge of bankruptcy by years of falling index levels which have deprived them of proprietary trading gains. Meanwhile, an 18-month drought of new listings has deprived them of underwriting fees.
Weak index levels and lackluster interest in A-shares have combined to deteriorate the quality and quantity of analysts' coverage. While the larger local brokerages have upgraded some departments in order to garner QFII business, the bulk of local analysts appear to rely on momentum calls to pick stocks. International brokerages have not yet found it commercially viable to commit resources to A-share analysis in the volumes required to meet a large rally.
This means that many international investors and probably most domestic investors will have to play it by ear as index levels rise. Large redemptions at both local and joint venture fund management companies indicate that after years of losing money on stock markets, China's investors will be looking for short term gains and may cash out unexpectedly.
In the meantime though, all involved are waiting for the party to begin when the first new listings are announced. New listing candidates include Chalco 2600 HK, the aluminum producer, which is said to be considering a secondary listing on domestic stock markets.
Blockbusters China Construction Bank 939 HK, Bank of Communications 3328 HK, and even yet-to-be-listed Bank of China, are all candidates for secondary listings in China.
While the rising tide will probably float all ships, we expect some ships will be more buoyant than others. Domestic bank stocks Huaxia Bank 600015 CH and China Minsheng Bank 600016 CH stand to gain if their competitor banks achieve secondary listings in China. The banks are both trading at around 2.5 times price to book versus the 3.3 times price to book paid for Bank of Communication and the 3.4 times book paid for China Construction Bank in Hong Kong. This gap has already started to close; we expect price to book ratios for these two banks will continue to move upward until they're north of 3.0 times book mark.
The Shanghai Municipal Raw Water Co 600649 CH supplies water to both Puxi and to Pudong. This makes it a proxy for Shanghai's growth as the city ramps up for the 2010 Expo as well as an indirect play on the development of China's financial sector.
Raw potential
Traditionally focused on water delivery, Raw Water has recently experienced 100% growth in water treatment revenues, also giving the company exposure to China's growing water treatment sector. With average daily turnover of nearly RMB20 million, and market capitalization over RMB11 billion, the stock is large enough and liquid enough for us to take the small stake that a journalist's salary can afford.
Red Dragon Fund stalwart Baoshan Steel 600019 CH has held its value well, but given the current cycle in the steel business this stock does not appear ready to generate a good return for us. Similarly, China Unicom's 600050 CH stock has come off its twin highs from January. At present, 3G notwithstanding, we see no strong drivers of China Unicom's share price. Accordingly, we bid these two stocks farewell, safe in the knowledge that we will see them again.
So, bravely facing the future, we cash in Baosteel and China Unicom for RMB1,664 and RMB8,100, respectively, and buy 500 shares of Raw Water for RMB3,020, 550 shares of Huaxia Bank for RMB2,921, and 600 shares of Minsheng Bank for RMB2,664. We'll keep that RMB1,627 remaining in cash for those hot IPOs!