Focus on opinions
Investment advice
We have updated and estimated the long-term growth of the Hong Kong Stock Exchange in terms of the return to the new economy, the expansion of connectivity scope, and the development of derivatives business, and verified the source and continuous upward trend of the Hong Kong Stock Exchange's high ROE. We believe that the company's current valuation has entered the layout range, reaffirming that it outperforms the industry rating.
rationales
How did the new reforms contribute to increased performance, and what might they have overlooked from a long-term perspective? We estimate that under a neutral assumption, the return and continuous transformation of general shares in 2025, the second transfer and potential entry, the promotion of new products such as ETF Connect, and the expansion of MSCI and Hang Seng's derivatives business will bring a total of HK$3.7 billion/HK$2.56 billion in incremental revenue and profit to the Hong Kong Stock Exchange, accounting for 17.7% and 20.4% of 2021, respectively. Profit contribution to the market under static estimates is already anticipated; however, in the long run, the mass listing of the new economy and the development of derivatives business will lift the exchange's long-term growth center (with higher endogenous growth rate and transaction turnover rate) and enhance performance robustness; at the same time, richer new economic targets and current historically low valuation levels will also make the market more flexible in the next upward cycle.
What is the reason for the high ROE of the Hong Kong Stock Exchange, and can it continue to rise? We believe that the high ROE in the history of the Hong Kong Stock Exchange has benefited from high profit levels under regional monopoly management, high growth across cycles, and high dividend strategies supported by a light capital model; although the acquisition of LME has caused the ROE center to decline, the company's net profit margin has maintained a high expansion in recent years. The asset turnover ratio has benefited from continued business growth, a moderate increase in net assets under a high payout strategy, and a relatively restrained extension development strategy. Furthermore, the company's cancellation of dividend payments in 2020 mitigated the impact of passive increase in net assets, and ROE continued to rise. Looking ahead, although developing more competitive global derivatives (such as MSCI Asia and emerging market products) and commodity businesses may slightly reduce net profit margins, these two parts of the business do not account for a high proportion, yet its new Hang Seng Technology products, which focus on layout, and new products related to A-shares such as MSCI A50 also have exclusive management characteristics. We believe that, driven by a stable business model and endogenous business growth, the long-term ROE of the Hong Kong Stock Exchange is expected to rise to ~ 50%.
How do you view the valuation level of the Hong Kong Stock Exchange? 1) From a static bond perspective, if the expected return refers to the level of 10-year US bonds ~ 3%, then 90% of the dividend rate corresponds to 30x static P/E, which we think can be used as the bottom valuation reference under the no-growth assumption; 2) From a three-stage DDM valuation, assuming COE is 8.1%, sustainable growth of 3%, and a gradual decline to a sustainable growth rate after high growth over the next 10 years, it corresponds to an implied market value of HK$485.3 billion and 17% upside; 3) From a growth perspective, let's say that active market reforms will drive the company's profit of HK$19.7 billion in 2025, reference to HK$18.8 billion After the reform of the listing system, the average was 35.6x P/E, discounted by 8.1% COE until 2023, corresponding to a market value of HK$599.3 billion, with 44% of the implied upside. In the short term, we believe that the performance level has absorbed the high base of 1Q21 and is expected to improve quarterly from 2Q22. The valuation level has been adjusted to 2023e 28.6x P/E. Downside risks at the market level may be limited, and the easing of platform economy supervision and steady growth policies are expected to provide a catalyst for offshore Chinese asset performance.
Profit forecasting and valuation
Keep the 2022/23 profit forecast unchanged. The company is currently trading at 35x/29x 2022/23e P/E, maintaining an outperforming industry rating and target price of 460 HKD (49x/40x 22/23e P/E with 40% upside).
risks
Market transactions continued to decline; the listing process for the new economy fell short of expectations; and the market reform process fell short of expectations.