Source: Kevin strategy research. Authors: Liu Gang, Zhang Weihan, etc. This week, there are several changes in global liquidity worth noting: 1) According to the EPFR fund data we tracked, as of this Wed (Jun-12), overseas capital continued to outflow from A-shares and Hong Kong stocks, but the outflow scale slowed down compared to last week; 2) As for the mutual market access, northbound capital massively flowed out, while southbound capital accelerated inflow; 3) The stock, bond and currency markets globally all maintained inflow; 4) US stocks turned into outflow, while Japan and developed Europe continued to have outflow. Domestic liquidity-wise, overseas capital still continuously flows out of the China market but the scale has narrowed. As of this Wed (Jun-6 to Jun-12), active funds outflowed a total of USD 180 million from the A-share and Hong Kong stock markets, which slowed down from last week's outflow of USD 280 million. At the same time, passive funds also outflowed, which slowed down to USD 280 million from last week's outflow of USD 360 million. After the rapid repair in the early stage, the A-share and Hong Kong stock markets have gone through a correction since the end of May, and the Shanghai Composite Index has fallen to around 3,000 points, while the Hang Seng Index has even fallen below the key resistance level of 18,000 points, consistent with the recent weakness in liquidity. The market performance since the end of April also confirmed our judgment that this round of capital inflow is mainly dominated by trading and regional partially configured fund. As for the global liquidity, active foreign capital flowed out of Japanese stocks, while US stocks turned into inflow and inflow into India accelerated. As of this Wed (Jun-6 to Jun-12), this week the active foreign capital inflow into the Indian market accelerated, with an overall inflow of USD 540 million (compared to an inflow of USD 260 million last week); As for Japanese stocks, the active foreign capital continued to flow out this week, with a narrower scale compared to last week's outflow of USD 400 million (outflowing USD 140 million this week). Meanwhile, active foreign capital turned into outflow for US stocks, with an outflow scale of USD 67.53 million.
Authors: Liu Gang, Wang Muyao, etc.

Last week, the Hong Kong stock market fell again, and has fallen nearly 10% from its high point. Since mid-April, the market has mainly been driven by improvements in the capital side and risk appetite, and in the absence of clear changes in the fundamentals, these driving features will make the market face some profit-taking pressure in the short term after overbuying. Therefore, we have been reminding investors since early May that the market is approaching the first stage target of around 19,000-20,000 points of the Hang Seng Index (HSI), corresponding to the level of the risk premium falling back to the high point of the market in early 2023. We believe that without further driving force from the decline in risk-free interest rates and a substantial improvement in earnings, the market will face some profit-taking pressure. As expected, the market has undergone a correction since mid-May, but we believe that unless there are extreme circumstances, the market will not give back all the gains, as changes in policy margins, overseas capital inflows, and valuation repairs are all real improvements. We previously judged that after the market gradually returns to reality and the fundamentals, it will shake and consolidate around the 18,000 point of the HSI, waiting for more new catalysts, which has been validated by the market performance last week.

Source: Wind, China International Capital Corporation Research Department.

Currently, domestic growth momentum is insufficient. Although exports have moderately recovered, with export amounts in May increasing 7.6% year-on-year in US dollars, which is significantly higher than market expectations of 1.5%, there is structural differentiation: 1) multiple production-side indicators in high-frequency economic data have declined month-on-month and year-on-year, such as a 4.3% month-on-month downshift and 29% year-on-year downshift in the operating rate of petroleum and asphalt installations; 2) property quantity and price are weakly operated. The second-hand house selling price index fell 1.3% month-on-month in May, and the transaction area of commodity housing in the 30 large and medium-sized cities in the week of June 9th fell 24.4% month-on-month. 3) Passenger vehicle sales have declined year-on-year, with retail and wholesale sales of passenger vehicles in the week of June 16th both falling by more than 10% year-on-year. CITIC Securities Automobile Group predicts that passenger car sales in June may still face year-on-year pressure given the high base and insufficient demand. 4) In terms of prices, China's May CPI was flat year-on-year but weaker than expected, and the year-on-year decline in PPI narrowed. Among them, upstream raw material prices have performed well, but may squeeze profit margins in the middle and lower reaches.

The root cause of the market's weakness and growth pressure is credit contraction, particularly the current policy strength and speed, which is still to be strengthened and insufficient to hedge against faster private credit contraction. Financial and credit data for May further confirmed this. The year-on-year increase of new loans decreased by 401.9 billion yuan, and the year-on-year growth rates of M1 and M2 further declined to 7.0% and -4.2%, respectively. Private sector credit expansion is weak, and credit is under pressure. The year-on-year increase of short-term and medium- to long-term household loans in May was 174.5 billion yuan and 117.5 billion yuan, respectively, indicating that the motivation for residents to leverage is still weak and the boost in credit demand for real estate by the new policy needs to be further transmitted. On the government side, fiscal impulses expanded in the third quarter of last year, but slowed down again at the beginning of the year and failed to hedge against the private sector's credit contraction. Although the issuance of government bonds accelerated in May, the overall fiscal force is still slow. The year-on-year increase in fiscal deposits in May was 526.4 billion yuan, indicating that fiscal deposits were not released in a timely manner. To solve this problem, financial leverage needs to be increased, and the reduction of financing costs is an indispensable means, and the scale and speed are equally important. We estimate that a fiscal increase of 4-5 trillion yuan and a 75-100bp reduction in the 5-year LPR may be effective, but it is difficult to achieve this scale, and the later it is launched, the greater the scale required.

Source: Wind, China International Capital Corporation Research Department.

Outside, US CPI data in May was lower than expected, and the Fed was relatively restrained at the June FOMC meeting. US data was volatile in May, and the market also fluctuated in its expectations of interest rate cuts. Non-farm payroll data released before the June FOMC meeting exceeded expectations, but CPI data was lower than expected, highlighting the notable differences. Against this backdrop, the Fed was more restrained at the June FOMC meeting, with the biggest change being that the "dot plot" was downgraded from three interest rate cuts in the year expected in March to one cut (four cuts from three in 2025), making the total number of interest rate cuts drop from six to five. Although CME interest rate futures show that the market still expects two interest rate cuts in the year (in September and December), we estimate that the central tendency for US Treasury bonds is around 4%, and there is still a possibility of interest rate cuts within the year. The third quarter is the key window, and the overall interest rate cut is expected to be 100-125bp.

Looking ahead, under the benchmark scenario, we expect policies to continue to be enacted, but "strong stimulus" is not feasible, so the market may show more short-term shaking and consolidation. How much room does the market have in the future? Of the three main market drivers: 1) The risk premium has been repaired to a large extent. We estimate that only the repair of risk appetite or driving force may push the HSI to our first target range of 19,000-20,000 points; 2) The short-term space for risk-free interest rates to move is limited. Assuming that the central tendency of the 10-year US Treasury bond rate falls to 4% and the 10-year China Development Bank bond rate remains unchanged at 2.3%, it may support the market to around 21,000 points; 3) Earnings are the key to opening up more space for the market. If earnings can achieve 10% growth in 2024, the HSI is expected to climb to 22,000 points or higher, but this also depends heavily on the opening of the credit cycle. We estimate that from a top-down strategy perspective, the 4% growth in earnings in 2024 is lower than the current market consensus. Therefore, we believe that before more catalysts appear, the market may experience some shaking at the current level (18,000 points of the HSI).

However, we believe that Hong Kong stocks still have some comparative advantages over A-shares: 1) relatively low valuations, whether it is high dividends or technology growth; 2) Hong Kong stocks are more sensitive to liquidity, and the proportion of overseas capital allocation is also at a low level. As of the end of April, the overall foreign investment proportion of Chinese stocks has dropped from 15% at the beginning of 2021 to 5%, and is 1ppt lower than the passive proportion; 3) the cyclical and internet sectors with good profitability account for a higher proportion in Hong Kong stocks, while the property and manufacturing chains with profit pressure are mostly concentrated in A-shares. In addition, if the Federal Reserve cuts interest rates later this year, Hong Kong stocks under the linked exchange rate system will benefit more than A-shares.

In the context of a market consolidation, we suggest paying attention to structural opportunities. In terms of allocation direction, we have always emphasized the "dumbbell" structure of dividends and growth, which has continued to show good results this year. Since the beginning of the year, the leading sectors such as oil and gas, metal mining, hotel dining, and internet media have been concentrated in these two areas. The China Securities Strategy's Hong Kong high dividend combination has risen by more than 30% since the beginning of the year, proving that this strategy is effective. We further summarize the allocation direction into three directions of overall return rate decline, partial leverage, and partial price increase, corresponding to: 1) stable return assets with high dividends, such as traditional telecommunications, energy, utilities, and some stable "cash cows" in internet consumption, to hedge the long-term growth rate decline; 2) sectors supported by policies or with upward economic trends, such as electrical equipment, technology hardware, semiconductors, software and services, corresponding to new quality production direction, these areas still have the possibility and space for adding leverage; 3) partial price increase, such as natural gas, nonferrous metals, and some necessary consumer goods, can protect corporate profit margins and enjoy greater bargaining power. Recently, southbound funds have accelerated inflows, which is contrary to the continuous outflow of northbound funds and active foreign investment. They mainly flow into energy, telecommunications, utilities, semiconductors and other sectors, which basically correspond to our recommended allocation direction.

Editor / jayden