Source: Finance Association

The recent rebound in Hong Kong stocks can be described as fascinating. Since mid-February 2024, as of April 26, Hang Seng Technology and Hang Seng Index had ranged increases and decreases of 16.27% and 11.16% respectively, significantly outperforming major global indices including the S&P 500 and Nikkei 225. This week, the Hang Seng Index also ushered in five consecutive positives, perfectly recovering the “lost ground” of the decline at the beginning of the year.

In response, Dongwu Securities pointed out that the net outflow of foreign capital from Hong Kong stocks has narrowed, forming a seesaw with the Japanese and Indian stock markets, or prompting some global/Asian allocations to gradually reduce positions in Japanese and Indian stocks and increase their allocation to Hong Kong stocks.

Based on the EPFR scale, Dongwu Securities pointed out that around mid-February, the net inflow of foreign capital into the Japanese stock market and the Indian stock market peaked and declined, and in response, the net outflow from Hong Kong stocks gradually subsided. Among Asia-Pacific funds, the stock position as of March 1 was 46.9%, while both Hong Kong stocks and A-shares were around 5%, indicating that there is still plenty of room for foreign investors to increase their allocation to Chinese assets.

At the same time, two clues revealed that the “North Water” is “flowing southward.” First, among mainland public funds, the Hong Kong stock position of active equity funds increased from 8.7% in the fourth quarter of 2023 to 9.3% in the first quarter of 2024. Second, since February, the net inflow of capital from Hong Kong Stock Connect has basically continued at the daily level, and the magnitude has gradually increased. The total net inflow from the beginning to date is 189.52 billion yuan, which is double that of the same period last year.

What are the funds trading?

Logic 1: The valuation is “cheap” enough, and the capital is low

Currently, Hong Kong stocks are a valuation depression among global equity assets, and their allocation value is outstanding. Looking at the horizontal comparison, the Hang Seng Index ranked last in terms of valuation among the world's important indices. In vertical comparison, as of April 26, '24, the valuation of the Hang Seng Index (PE TTM, same below) is at a historical rank of less than 20% since 2015, and Hang Seng Technology's valuation is at a historical rank of 15.5% since August '20; while Japanese stocks and Indian stocks are all ranked above 30% in recent years, the Hong Kong stock allocation is relatively cost-effective. Combined with the sharp depreciation of the yen, the return on investment in Japanese stocks was damaged, or attracted capital to switch between high and low valuations.

Logic 2: Domestic fundamentals and fundamental expectations are improving

If the valuation is simply “cheap,” it is not a reason to increase capital positions; the rise in Hong Kong stocks also suggests an improvement in domestic fundamentals/fundamental expectations. On the macroeconomic side, the domestic economy performed well in the first quarter. The GDP growth rate was higher than expected, PMI returned to the boom range, exports were impressive, and foreign banks' predictions for China's GDP growth rate for the full year of 24 were generally revised. At the micro level, the 23Q4 profit growth rate of Hong Kong stock Internet companies such as Tencent, Meituan, and JD was higher than expected. The Hang Seng Index EPS unanimously predicted an increase of 2.84% over the end of last year, and foreign banks such as UBS and Goldman Sachs raised Hong Kong stock ratings, all reflecting an improvement in the market's fundamental expectations.

Logic 3: Blue chip dividends are stable, and Hakuba “catches up”

The interest and level of dividends in Hong Kong stocks is high, and the dividend rate is attractive. On the one hand, blue chip stocks are stable, and on the other hand, the dividend ratio of Hakuba stocks represented by the Internet is increasing dramatically. Compared with other equity markets, Hong Kong stock companies are highly willing to pay dividends. Among all listed companies that paid dividends in '22, the median share dividend ratio of Hong Kong stocks was 37.4%, which is 5.8pct higher than A-shares. As of April 26, '24, the Hang Seng Index's dividend ratio was 4.08%, significantly higher than the Shanghai Composite Index's 2.73% and Nikkei 225's 1.60%, giving it a comparative advantage.

Among them, large-cap blue-chip stocks are the main dividend payouts for Hong Kong stocks, with annual dividends for the finance, energy, telecommunications, real estate construction, and non-essential consumer industries reaching HK$1.6 trillion in 23, accounting for 80% of all Hong Kong stocks. At the same time, many White Horse stocks increased their dividends in 23-24, and individual stocks with significant year-on-year dividend increases mainly in the IT, non-essential consumption, and healthcare industries. In addition, recently, Tencent, Ali and others announced a 24-year dividend repurchase plan, further boosting the rise in technology stocks.

Logic 4: Capital market policy catalysis

The continuous rise in Hong Kong stocks this week is inseparable from policy support. On April 19, the Securities Regulatory Commission announced five measures for cooperation with the Hong Kong capital market, which aim to further expand market connectivity between the two places, which are expected to enhance the liquidity of Hong Kong stocks. Among them, easing the scope of eligible products for stock ETFs under the Shanghai-Shenzhen-Hong Kong Stock Connect will help increase the number and size of ETFs that can be invested in the mainland; incorporating the RMB stock counter into Hong Kong Stock Connect will reduce the exchange costs of southbound funds and increase dividend income, which in the long run will help attract long-term capital such as social security and insurance to enter the market.

Furthermore, during the two sessions, the Chairman of the Hong Kong Securities Regulatory Commission proposed optimizing the tax arrangements for Internet dividend dividends, reducing the dividend tax level for individual Hong Kong Stock Connect investors, and strengthening the market policy outlook. Since the dividend tax difference between individual investors investing in Hong Kong stocks and A-shares in mainland China can reach up to 28%, there is still room for optimization. According to estimates, the 50 stable dividend stocks in Hang Seng Hong Kong Stock Connect were selected as portfolio representatives. If the dividend tax for mainland investment in Hong Kong stocks is adjusted uniformly to 10%, the dividend rate after tax under the overall law will rise from 5.3% to 5.5%, increasing dividend income by about HK$40 billion; if domestic and foreign dividend taxes are fully exempted, the dividend rate after tax will rise to 5.6%, increasing dividend returns of nearly HK$70 billion. Therefore, if subsequent dividend tax policies are optimized, it is expected to attract more domestic and foreign investors to enter the market.

What do you think of the subsequent market?

Recently, the domestic and foreign liquidity of Hong Kong stocks has improved. Some of the global and Asian allocations want to reduce Japanese and Indian stock positions, increase the allocation for Hong Kong stocks, and increase the “southward flow” of domestic capital. The inflow of capital in the short term may be based on a four-point logic: valuations are “cheap” and capital is high and low; domestic fundamental/fundamental expectations are improving; Hong Kong stocks are willing and level of dividends are high, blue chip dividends are stable, and white horse is “catching up”; and catalyzing capital market policies.

Looking at the medium to long term, two core variables affecting the long-term trend of Hong Kong stocks are quietly changing. The first is the change in the nominal growth gap between China and the US. The convergence of the nominal growth gap between China and the US in 24 will be a core factor in the recovery of Chinese asset prices, and Hong Kong stocks are affected by linked exchange rates, which are more sensitive and often more responsive to changes in the overseas macroeconomic environment. Second, changes in the US dollar and US dollar credit. Historically, there is a clear negative correlation between the performance of Hong Kong stocks and the US dollar index. Currently, the US dollar “falls easily and is difficult to rise”. The intrinsic value is damaged or suggests that the depreciation of the US dollar “is imminent” after the start of the interest rate cut cycle. Hong Kong stock valuations are expected to usher in a systematic rise.

Overall, Dongwu Securities believes that positive factors are increasing and has a positive view on the future market performance of Hong Kong stocks.

editor/tolk