The recent situation in Russia and Ukraine further hit Hong Kong stocks. On March 4, the Hang Seng Index, the State-owned Enterprise Index and the Hang Seng Technology Index fell 2.5%, 2.7% and 4.4% respectively. Historically, during the outbreak of geopolitical risk, the Hong Kong stock defensive sector and the upstream resource sector performed relatively better.

Considering that some investors are worried that domestic banks dealing with Russia may face potential risks, and the credit risk of real estate has not been eliminated, short-term advice is to focus on upstream resource products (energy, materials) and defensive sectors (public utilities, telecommunications, must-have consumption).

Under the assumption that the conflict between Russia and Ukraine will not continue to worsen, it is expected that the two major risk factors of external geopolitical conflict and Fed monetary tightening will gradually fade from the second quarter, and we are still optimistic that the Hong Kong stock market will usher in an annual 20% valuation repair.

After the external risks are eliminated, it is recommended to pay attention to: HSBC Holdings PLC, China Construction Bank Corporation, China Resources Land, Guangzhou Automobile Group, China Resources Beer, Jinxin Reproduction, COFCO Jiakang, Trip.com-S, XPeng Inc.-W, Baidu-SW.

Recently, tensions between Russia and Ukraine have continued to rise, which has had a significant impact on the Hong Kong stock market.

Since February 10, the Hang Seng Composite Index, the Hang Seng Index and the Hang Seng Technology Index have fallen 11.6%, 12.1%, 16.4% respectively. In terms of sectors, with the exception of the energy sector, which benefited from stronger oil prices, the rest of Hong Kong stocks fell.

Among them, raw materials driven by rising commodity prices and the consumer sector of the traditional risk aversion industry fell less, falling 2.4 per cent and 3.0 per cent respectively. The information technology, optional consumption, and real estate construction sectors, which were already affected by tighter regulation, fell higher, reaching 18.9%, 14.1% and 10.5%, respectively. From the perspective of capital flow, under the background of geopolitical risk outbreak, domestic / foreign investment shows opposite behavior.

Since 18 February, funds entrusted with international intermediaries have accelerated their outflow from the Hong Kong stock market, with an outflow of HK $17.2 billion in just one week, while southbound funds have accelerated inflows totaling HK $6.1 billion. From a sub-industry point of view, recent foreign investment has shown a strong risk aversion attribute. Last week, international intermediary trusteeship funds flowed into the required consumption, raw materials sector accounted for the highest proportion of AUM; while southward began to copy the bottom of medicine, optional consumption and other sectors.

Under the outbreak of geo-conflicts in history, resource products and defensive plates in the upper reaches of Hong Kong stocks have performed relatively well.

Recalling the 2014 Crimean crisis, which is relatively comparable to the current conflict between Russia and Ukraine, the Hang Seng Composite Index fell 4.5 per cent during the crisis from March 1 to March 25, 2014, while the index rebounded by about 5.4 per cent from March 25 to April 14.

During the whole stage, the defensive sectors of Hong Kong stocks and upstream resource products performed relatively well. The retail, real estate, banking, public utilities, energy and raw materials sectors of food and major supplies rose 7.4%, 5.0%, 4.3%, 1.3%, 1.2%, 0.9%, respectively.

From the perspective of capital flow, during the crisis, the global capital outflow must choose consumption, the proportion of raw materials plate is also relatively low, the plate risk aversion attribute is highlighted.

Under the mood of risk aversion, short-term advice is to focus on energy, materials, public utilities, telecommunications, and required consumer sectors.

Looking back at this round of conflict between Russia and Ukraine, it is slightly different from the previous round. Recently, the United States, Europe, Japan and other major countries have imposed financial sanctions on Russia, including plans to remove seven Russian banks from the SWIFT system and freeze their foreign reserves. Some investors are also concerned that Chinese banks may also face the potential risk of sanctions if they continue to trade with Russian banks.

Considering that the current credit risk of domestic real estate has not been eliminated, we recommend that investors pay attention to the energy and raw materials sectors boosted by rising commodity prices, as well as the required consumption, public utilities and telecommunications sectors with risk aversion:

Upstream resource products and defensive industries

We quantitatively screened out the energy, materials, public utilities and telecommunications industries: 1) the current market value is more than HK $10 billion; 2) the dividend yield is higher than 5%; 3) the stocks with relatively low historical quantile of PB: Petrochina, China Petroleum & Chemical Corporation, China Resources cement Holdings, Anhui Conch Cement, Guangdong Investment, Beijing Water Control Group, CK Infrastructure, Power Assets, China Mobile Limited, China Unicom.

Must-choose consumption with rapid profit growth

Considering that the required consumption also has the nature of risk aversion, we also recommend to pay attention to the stocks with policy support, which are close to the performance period and whose profit growth is expected to be faster: 1) the current market value is more than HK $10 billion; 2) the projected net profit growth rate in 2022 is higher than 15%. 3) stocks with relatively low historical quantiles of PE: WH Group Limited, Yihai International, Budweiser Brewing Company APAC Limited, China Mengniu Dairy, China Feihe Limited, Tsingtao Brewery, NONGFU SPRING CO., LTD..

After the external shock, the Hong Kong stock market is expected to usher in an annual valuation repair in the second quarter.

By the close of trading on March 4, the dynamic PE of the Hang Seng Index, the State-owned Enterprises Index, the Hang Seng Composite Index and the Hang Seng Technology Index had fallen to 10.0,8.0,9.6 and 22.4 times, respectively, with historical quantiles of 9%, 50%, 4% and 0% respectively.

Against the backdrop of the escalating conflict between Russia and Ukraine and significantly increased western sanctions against Russia, investor concerns about financial stability and commodity supply have also risen significantly, leading to a sharp fall in expectations of Fed interest rate hikes over the past week (from 175bps to 125bps for the whole year).

We judge that under the assumption that the conflict between Russia and Ukraine will not continue to worsen, the two major risk factors of external geopolitical conflict and monetary tightening will gradually fade from the second quarter. Internally, we expect that the gradual recovery of real estate industry data after March will pry the revaluation of the large financial sector, and the PB valuation of the domestic banking sector may have about 20% upside space; and in the environment of further clarity of regulatory measures for platform economy companies, after the digestion of the "performance pit" of the major Internet leaders, it is expected that foreign confidence in the "new economy" sector of Hong Kong stocks will also be significantly boosted, driving the return of capital.

We are still optimistic that the Hong Kong stock market will usher in an annual 20% valuation repair from the second quarter. Combined with the view of the industry group of CITIC Research Department, after the external risks are eliminated, we recommend that investors pay attention to: HSBC Holdings PLC, China Construction Bank Corporation, China Resources Land, Guangzhou Automobile Group, China Resources Beer, Jinxin Reproduction, Cofco Jiakang, Trip.com-S, XPeng Inc.-W, Baidu-SW.

Risk factors: 1) further escalation of geo-conflict; 2) Fed tightening monetary policy beyond expectations; 3) higher-than-expected global COVID-19 outbreak; 4) continued outflow of foreign capital.