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Summary of the Hong Kong Market Strategy Document (29 June 2018)

Core Content

This document outlines the Hong Kong market strategy for the third quarter of 2018 (3Q18), focusing on the economic outlook for China, market volatility, and sector-specific recommendations. It highlights the impact of the US-China trade dispute, the role of domestic consumption and investments in China's economic growth, and the potential for valuation recovery in the Hong Kong equity market.

Main Views

• Economic Outlook for China:
  China's GDP is expected to continue its growth path of around 6.5% in 2018, driven by domestic consumption and gross capital formation. While the US-China trade dispute poses a threat, the actual impact on GDP is likely to be less than the worst-case scenario due to potential Chinese retaliation and the declining reliance on exports.

• Market Volatility:
  The Hang Seng Index (HSI) is expected to remain volatile in 3Q18, with a trading range between 27,000 and 30,500 points. A bottom of 25,500 points is possible only in a full-blown trade war scenario. The market may see a valuation recovery in 4Q18 if trade tensions ease.

• Sector Performance and Recommendations:

  • China Banks: Positive outlook due to gradual NIM expansion and strong credit demand. ABC and BOC are recommended as top picks with target prices of HKD5.80 and HKD5.90 respectively.
  • China Property: Expected to maintain solid growth with a 4.3% sales growth for 2018. Country Garden and Shimao Property are highlighted as top picks.
  • Tencent: Strong fundamentals are expected to remain unaffected by trade war, making it a good entry point during short-term headwinds.
  • Other Sectors: The internet and software sector is viewed positively due to user engagement and monetization opportunities, while the auto sector remains selective with Geely as a top pick.

Key Information

• HSI Trading Range in 3Q18: 27,000 to 30,500 points.
• HSI Valuation: Trading at 10.7x forward-rolling P/E, roughly equivalent to -0.5SD from the 10-year mean.
• Trade War Impact:
  • Worst case scenario: GDP reduction of 0.1–0.8% in 2018 and 0.2–1.6% in 2019.
  • However, the impact is likely to be less due to Chinese retaliation and domestic adjustments.
• Capital Inflow Catalysts:
  • Softening of trade tensions.
  • Strengthening USD.
  • Potential IPOs of unicorns and CDRs.
• Valuation Recovery in 4Q18:
  • HSI could return to around 34,000 points (+0.5SD from 10-year mean) if trade tensions ease.
• Top Picks and Ratings:
  • BUY: Agricultural Bank of China (1288 HK), Bank of China (3988 HK), China State Construction (3311 HK), Country Garden (2007 HK), Shimao Property (813 HK), Geely Automobile (175 HK), Tencent (700 HK).
  • SELL: China Overseas Grand Oceans (81 HK).
• Stocks Covered: 80 stocks with ratings: 50 BUY, 21 Neutral, 9 SELL.
• Economic Data Highlights:
  • China's GDP growth in 1Q18 was 6.8% YoY, exceeding the 6.5% target.
  • Real estate investment and manufacturing capital expenditures are key drivers of growth.
  • Retail sales growth is expected to reaccelerate in 2H18.

Market Strategy Summary

• Range Trading in 3Q18: The market is expected to remain in a range due to cautious sentiment and uncertainties around trade tensions and monetary policy.
• Valuation Recovery in 4Q18: A potential easing of trade tensions and other catalysts such as USD strengthening and IPOs could lead to valuation recovery.
• Short-term Focus: Recommend yield plays and domestic demand-driven sectors as safe havens.
• Long-term Outlook: Economic growth is expected to remain on a normalizing path, with domestic consumption and real estate investments as key growth drivers.

Conclusion

The Hong Kong market is expected to remain volatile in the short term due to ongoing trade tensions, but there is potential for valuation recovery in the fourth quarter of 2018 if the situation improves. The report recommends focusing on sectors with strong fundamentals and domestic demand, such as China banks and property, as well as specific stocks with attractive valuations and growth prospects.