China's equities more attractive for foreign investors

China's equities are increasingly attracting international investors due to the prospect of the country's stabilizing economic growth when the capital market is overcast elsewhere.

A glimpse at the northbound capital－the amount that foreign investors buy into the A-share market via the stock connect mechanism linking the Shanghai, Shenzhen and Hong Kong bourses－can reflect A-share appeal amid prospects of recovering economic growth.

From June 1 to 17, the northbound capital reported an aggregate inflow of nearly 58.7 billion yuan ($8.7 billion), which was in sharp contrast to the 45.1 billion yuan of outflow in March.

International investors have poured capital into the A-share market since mid-May, showing the most interest in the industrial, public utility and financial sectors, as calculated by Credit Suisse.

Indeed, A-share industrial companies have replaced consumer staples as the sector where international investors had the biggest exposure over the past few months, said Will Stephens, head of Credit Suisse's quantitative and systematic strategy in the Asia-Pacific.

Not only are foreign investors interested in A-share large-cap blue chips whose development prospects are underappreciated, but they are also eyeing mid to small-cap companies with strong growth potential that have not been fully considered, said Stephens.

According to the Shanghai-based market tracker Wind Info, foreign institutions conducted 575 studies of smaller-cap companies listed on the tech-heavy ChiNext in Shenzhen, Guangdong province since the beginning of April. They have also carried out another 641 studies on companies trading at the STAR Market on the Shanghai bourse. During the same period, only 265 studies have been made on the large-cap companies listed on the A-share main board.

Investors poured nearly $270 million into the $7.2 billion iShares MSCI China Exchange Traded Fund on June 14, the biggest daily inflow since BlackRock rolled out the fund in 2011.

This is the world's largest overseas exchange-traded fund tracking Chinese equities.

KraneShares CSI China Internet ETF, the second-largest China-focused ETF, managed by New York-headquartered Krane Funds Advisors LLC, has also attracted net capital inflows of about $454 million over the past 30 days.

"Chinese equities have rallied amid tightening liquidity globally, indicating the changes in China's macroeconomy. The A-shares are now of increasing appeal to international investors," Max Luo, China director for asset allocation at UBS Wealth Management said during a half-year outlook meeting on June 21.

Luo said, the logic of the A-share market has been changing. This conclusion is supported by the recent stronger rather than weaker performance of the A-share market when the US dollar is becoming stronger.

The A-share market has rallied as production resumed after the latest COVID-19 resurgence was contained and the stimulative economic policies started to take effect. By June 24, the benchmark Shanghai Composite Index had gained nearly 5.3 percent this month, and the Shenzhen Component Index had moved up almost 10 percent.

On the other hand, the mood has been sour in the US stock market on the back of the Federal Reserve's interest hikes to curb soaring inflation. As of June 23, Dow Jones has slid 6.5 percent in June, and the Nasdaq has shed more than 6.3 percent.

The inflow of northbound capital has also helped to buoy A-share market sentiment, said Luo of UBS.A-share companies are now seeing their average price-to-earnings ratios approach a historic low. But their profitability will be improved as China's economic growth further recovers.

"Globally, there are positive signals for the Chinese stock market. Chinese equities are welcomed not only by investors eyeing China assets or those considering global asset allocation," he added.

The manufacturing purchasing manager index, returning to the expansion territory for the first time since February, showed a V-shaped rebound to come in at 50.2 in June. As experts from Black-Rock understand, that is enough to be considered a turning point, showing that the impact of the latest COVID-19 resurgence has been subdued.

To further facilitate China's economic recovery, more supportive monetary and fiscal policies will be introduced, said BlackRock experts. Home purchasing policies may be relaxed in some parts of the country and consumption coupons or subsidies granted in some Chinese cities will boost consumption. Against that backdrop, economic recovery in the second half can be expected, which will be a positive signal for the stock market, they said.

While Stephens from Credit Suisse stressed the relatively low correlation between the A-share market and other global markets, which will help international institutions diversify their investments, experts from Founder Securities depicted the A-share market as a "haven" for foreign investors, especially when overseas markets are lackluster.

With the relaxed policy environment, the A-share indexes will continue to move up amid fluctuations. Technology and growth enterprises will be responsible for most of the structural performance in the following months, said Founder Securities analysts.

Chinese bonds are also looking up. The 5 billion yuan in bonds issued by the People's Bank of China in the Hong Kong Special Administrative Region on June 21 has been well-received by the market. The six-month bill with a coupon rate of 2.3 percent saw its bidding reach 22.8 billion yuan, roughly 4.5 times the issued value.

Investors' pursuit of the bonds has reflected the attractiveness of renminbi assets to overseas investors and the confidence global investors have in the Chinese economy, according to the PBOC.

Data from the Institute of International Finance showed that $2 billion flowed into the Chinese bond market in May, during which time most emerging markets experienced foreign net capital outflow.

Matt Simpson, an analyst with Gain Capital, estimated that up to $10 billion will flow into China's bond market every quarter through the end of 2024 given that the FTSE Russell had included Chinese government bonds in its World Government Bond Index.