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China Strategy Outlook 2022 Summary

Core Content Overview

The China Strategy Outlook 2022 provides an analysis of the global and Chinese market performance in 2021, along with a market outlook and strategic recommendations for 2022. It highlights the factors influencing stock valuations, sector performance, and the impact of monetary and regulatory policies on the Chinese and Hong Kong markets.

2021 Market & Strategy Review

Global Recovery & Inflation

• The global economy and financial markets recovered significantly from the pandemic in 2021.
• Inflation spiked due to supply chain disruptions and labor shortages, with the US CPI reaching a 31-year high of 6.2% YoY in October.
• The Eurozone CPI also hit a 13-year high of 4.1%.

Chinese Stock Market Performance

• Chinese stocks lagged behind the global market, particularly the US and European indices.
• The Hang Seng Index (HSI) peaked in February and bottomed in November, with a range of 23,175–31,183.
• The Hang Seng China Enterprises Index (HSCEI) peaked at 12,272 and reached a trough of 8,258, which was 10% below the forecasted range of 9,200–12,000.

CMBI Strategy Review

• CMBI's 18 top picks outperformed benchmarks in 2021, with an average price gain of 3.3%.
• The HSI's performance was in line with the forecast, while the HSCEI slightly underperformed.

2022 Market Outlook & Strategy

Rebound in Sight

• The HK stock market is expected to re-rate from distressed valuations, with the HSI trading range forecasted to be 22,500–28,400.
• The HSI's P/B ratio is currently at 0.99x, which is similar to historical trough levels, but with reduced pandemic uncertainty, it is seen as relatively attractive.

Relative Valuation

• China's stock market underperformed other emerging markets in 2021, but its 2022 earnings growth is expected to be among the highest, and P/E ratio relatively low, making it more attractive compared to other EMs.

Earnings Outlook

• HSI and MSCI China earnings are expected to grow by 11% and 14% in 2022, and 15% and 16% in 2023, respectively.
• US S&P 500 earnings growth is expected to be slower at 7% and 9%.
• Earnings forecasts for HSI have stabilised after being cut in Q3 2021 due to regulatory risks and weak results.

Inflation and Monetary Policy

• US inflation is expected to moderate in 2022, with core PCE at 2.3% and CPI at 2.6%.
• China's PPI-CPI gap is expected to narrow, with CPI rising to 2% and PPI falling to 3.9% YoY.
• The Fed is expected to end QE by mid-2022 and raise interest rates in the second half of the year, while the PBOC is likely to maintain a neutral stance or slightly ease policy.

Sector Implications

• As PPI-CPI gap narrows, downstream sectors (Consumer, Healthcare) are expected to outperform upstream sectors (Energy, Materials).
• The 2017 pattern of sector performance is anticipated to repeat in 2022, with growth stocks leading.

HSI Target Range and P/E Ratio

• Based on a target P/E range of 10.4x–13.1x, the HSI is expected to trade between 22,500–28,400 in 2022.
• The potential upside from current levels is estimated at 18%, with 11 ppts from profit growth and 7 ppts from valuation expansion.
• The current P/E ratio is capped at 13.1x due to ongoing regulatory risks, but the low end of the range is expected to be higher than the 10-year trough of 9.4x.

Sector Outlook

Internet

• The internet sector is expected to outperform, with regulatory risks largely priced in.
• Sector sentiment is anticipated to improve by 2Q22, supported by the relaxation of travel restrictions post-Winter Olympics and Two Sessions, and the resumption of game licenses.
• Top Picks: Meituan (3690 HK, BUY), NetEase (NTES US, BUY).

Technology

• The 5G+VR/AR cycle and semi-localisation are expected to drive growth.
• The sector is seen as benefiting from improved supply chain and policy support.

Software & IT Services

• Continued upgrades in the software supply chain are expected to support growth.

Healthcare

• Innovation is the key theme, with a focus on long-term growth and technological advancements.

Consumer Staples

• Structural merits are prominent, even amid stagflation expectations, due to the sector's resilience and essential nature.

Consumer Discretionary

• Effective foot traffic acquisition and cost pass-through are critical for performance.

Banking

• The sector is expected to seek safe harbor amid economic uncertainties.

Insurance

• P&C growth is expected to rebound, while life insurance growth is likely to slow in 1Q22.

Property

• The end game remains unclear, with concerns over credit defaults and market deterioration.

Construction Machinery / HDT

• Potential recovery in infrastructure spending is expected, with industry leaders likely to rebound.

Express Delivery

• Strong policy measures are anticipated to reshape the competitive landscape.

Solar & Wind

• Solar is expected to resume normal operations after tightened supply.
• Wind energy is projected to sustain growth due to grid-parity projects.

Gas

• Accelerating business transition is expected as the sector adapts to new market conditions.

Catalysts & Risks

Potential Catalysts

• Control of the pandemic through higher vaccination rates and successful drug development.
• Relaxation of China's "zero COVID" policy and travel restrictions.
• Trade negotiations between the US and China leading to tariff reductions.
• US inflation slowing more than expected, allowing for a more moderate Fed rate hike.
• Chinese government adopting stronger growth-stabilisation policies, including monetary easing and fiscal stimulus.

Risks

• Emergence of new pandemic variants leading to stricter lockdowns and border controls.
• Continued inflation and rapid central bank rate hikes.
• Persistent supply chain disruptions.
• Escalating US-China tensions.
• Geopolitical instability.
• Further deterioration of the Chinese property market with more credit defaults.