Hong Kong-listed Chinese shares are among the world’s worst performers this year, while the MSCI China Index is trading near its lowest level against global peers since 2005.

Investors from abrdn to BNP Paribas Asset Management remain concerned that Beijing is not doing enough to boost corporate profitability as new Covid outbreaks raise the specter of lockdowns. An earlier market recovery stalled even after authorities cut borrowing costs, threw a lifeline to developers and took steps to boost spending.

China's MSCI index is trading near its lowest level against global peers since 2005

“The visibility of the evolution of China’s zero-spread policy for COVID-19 is low, and recent reports suggest that containing the virus remains the country’s top policy priority,” said Adam Montanaro, chief investment officer of global emerging markets equities at abrdn. “Not only do investors hate uncertainty, but the negative economic impact of these policies is becoming increasingly apparent.”

China’s benchmark CSI 300 is trading 15% below its peak for the year as a spike in US-China tensions compounded its woes. China’s military said it launched new patrols around Taiwan on Monday to “fend off” another visit to the US Congress less than two weeks after House Speaker Nancy Pelosi traveled to Taipei. Beijing claims the island as its territory.

READ: US lawmakers visit Taiwan after Pelosi trip angers China (1)

Market sentiment is weak because Chinese investors are “fearful that a war with the U.S. could break out and new Covid options will lead to further restrictions,” said Mark Mobius, co-founder of Mobius Capital Partners. Chinese stocks will only recover if Beijing resolves these two issues, he added.

Global funds are headed for an exit. Foreign investors pulled 21 billion yuan ($3.1 billion) out of stocks in July in the first monthly outflow since March, data compiled by Bloomberg showed. Sentiment remains weak in August, with the market recording net withdrawals in six of the last 12 trading sessions.

The mood is so gloomy that even the People’s Bank of China’s unexpected interest rate cut on Monday failed to lift spirits. Both the CSI 300 Index and the Hang Seng Index ended lower, with both indices down about 15% each this year.

“The biggest risk to China’s growth in the near term is its dynamic Covid-zero policy, which offsets the positive effects of Beijing’s cautious policy easing,” said Jessica Ti, senior specialist in Greater China equities at BNP Paribas Asset Management. “China will need additional fiscal stimulus to help stabilize GDP growth and ultimately restore market confidence.”

The measures include reviving the housing sector and accelerating public investment in infrastructure, she added.

HSCEI members' income forecast has been cut to the lowest since 2009

The consensus 12-month earnings forecast for the Hang Seng China Enterprises Index fell to its lowest since 2009, according to data compiled by Bloomberg. Of the companies in the MSCI China Index that reported second-quarter results, at least a third missed analysts’ estimates.

“The corporate earnings trend has been really terrible,” said Gary Dugan, executive director of the Global CIO Office in Singapore. “Early signs in August were of some stabilization with trade holding up well, however ongoing challenges in the property sector remain worrying.”

Evaluation argument

MSCI’s China index trades at 11 times forward earnings, 17% below its five-year average.

Certainly, the cheap valuations have attracted some bargain hunters.

“We have selectively added to positions where valuations are excessively undervalued and increased our exposure to the Internet in China, where fundamentals are improving,” said abrdn’s Montanaro.

Jian Shi Cortesi, chief investment officer at GAM Investment Management in Zurich, said she sees the renewable energy sector as a bright spot in China’s stock market.

A slowdown in China’s real estate sector has turned into a full-blown crisis as a liquidity crunch caused by the government’s efforts to curb debt has led to record levels of defaults. Chinese authorities are said to have told several developers that the state-owned China Bond Insurance Co. will provide full guarantees for some of their future land bond offerings.

The turmoil in the real estate market is bad news for the economy, as it is expected to force the central bank to rein in stimulus to stimulate growth.

“The market remains concerned about downward economic pressures from the dynamic zero-covid policy and weakness in the real estate market,” GAM’s Cortesi said.

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