Three major reasons to be bullish on A-shares.

Since August 2023, the A-share market has been in a state of low sentiment, once adjusting to a near 5-year low. With the improvement of the fundamentals and the release of liquidity risks, the bullish factors in the stock market are accumulating. What are the three "reasons" to be bullish on the market, and the "logic chains" worth paying attention to subsequently? This article analyzes and provides references.

Three reasons to be bullish on A-shares:

1. Why did the A-share market adjust previously? The economic outlook was relatively pessimistic, and there were also shocks to micro-liquidity. Since August 2023, the A-share market sentiment has been low, once adjusting to a historical low. The Shanghai Composite Index once fell to 2,635.09 on February 5, setting a new low since February 2019. After the adjustment, the valuation of A-shares has reached a historically very low level: from a macro perspective, the price-to-book ratio of the Shanghai Composite Index is only 1.2, at the 0.3% percentile since 2000; the stock-bond yield difference is also close to 2 standard deviations below the mean of the past 3 years; from a micro perspective, 15% of A-share companies are below net value, and 29% are below issuance, both at more than 95% of the historical percentile.

Advertisement

The pessimistic economic outlook and the weak effect of bottoming-out policies may be the main reasons for the weakening market sentiment. First, the manufacturing PMI data is not strong, and the main items of domestic and foreign demand are still relatively weak. Second, since September, the market has once had certain expectations for the reduction of MLF and LPR, and before the LPR cut on February 20, this expectation had been disappointed several times. Third, the existing debt has suppressed the ability and willingness of enterprises to expand reproduction and residents to increase leverage, leading to weak financing demand and a lack of effective policy handles.

Recently, the deterioration of market micro-liquidity may have further amplified the fluctuations of A-shares. Since January, the "volume decline" led by small-cap stocks may be the impact of the liquidity environment: 1) From January 22 to February 5, about 200 billion "snowballs" were concentrated on knocking in; 2) Since January 29, the market financing balance has quickly decreased by 150 billion; 3) It is estimated that as of February 2, the market value of major shareholders suspected of touching the forced liquidation line has increased by about 240 billion compared to the end of December, based on a pledge ratio of 60% and a liquidation line of 140%.

2. What are the three logics for being bullish on the market? Fundamental repair, risk preference improvement, and long-term capital support are bullish factors.

Bullish factor 1: "Stabilizing growth" is ongoing, and the supporting effect on the economy is expected to gradually emerge. The three steps of "stabilizing growth" are: first, the "trillion yuan national debt" project list is issued; second, the real estate "three major projects" are accelerated; third, industrial policies are protected. At present, corporate orders have been confirmed, and high-frequency data such as excavator sales are also reflecting positive signals of the implementation of stable growth. Pay attention to changes in revenue and inventory in infrastructure and real estate, and the implementation of stable growth may effectively stimulate the terminal demand of related chains.

Bullish factor 2: At a low valuation, the broad interest rate cut may be conducive to raising the risk preference of funds. On February 20, the 5-year LPR was unexpectedly cut, further releasing the "stabilizing growth" signal. The current market sentiment is extremely low: 1) As of December 31, the average stock position of sunshine private equity was only 56%; 2) In January, the new issuance scale of equity public funds was only 6.24 billion yuan, the lowest since 2019. The unexpected cut in broad interest rates may also be expected to improve the sentiment of domestic capital.

Bullish factor 3: Incremental funds such as "Exchange Gold" are expected to provide support to the market and also weaken the tail risks of the market. On February 6, the Central Exchange Gold announced that it would continue to increase the range of ETFs; the social security fund is also expected to increase the investable proportion of stocks and equity assets. Since January, the Shanghai and Shenzhen 300 ETF has increased by a total of 82.6 billion shares. Compared with the high in 2015, the space for institutions such as "Exchange Gold" to increase may be nearly 500 billion yuan; some sectors preferred by long-term capital may hope to benefit.

Three, the subsequent impact of potential risks? The peak of liquidity impact has passed, and real estate-related risks still need to be tracked.

Risk 1: In the existing "snowball" structure, most of the knock-in risks have been released before February 5, 2024. It is estimated that the additional knock-in scale of the CSI 500 and CSI 1000 "snowballs" before February 5 is 11.796 billion yuan and 8.239 billion yuan, respectively, accounting for 59.5% and 94.6% of the previous outstanding non-knocked-in "snowball" scale. The release of knock-in risks in the CSI 1000 "snowball" is more sufficient, and the scale between the knock-in line of 3,800 to 4,200 points is smaller; the subsequent market impact may be weakened.

Risk 2: The risk of major shareholders' pledge and financing plate forced liquidation may still have a certain "safety cushion" buffer. In terms of major shareholder pledges, the market value of stock pledges has continued to decline in recent years, and the proportion of pledged market value to total market value is only one-third of the high point in 2018; the pledge rate of restricted shares on the Shanghai Stock Exchange in the past three years is 32%, also lower than the 36% during 2015-18. In terms of financing plates, the average guarantee ratio of two financings is still 246%, and the cash/guarantee security is 6.2%, which has risen to a higher level since 2021.Risk 3: The real estate cycle is trending downward, and the risks in some traditional chains still need attention. In 2022, the number of main homebuyers (population aged 25-44) in China decreased by 46.7 million compared to 2015, and the proportion dropped to 28.4%. Changes in the development stage, population structure, and industrial ecology may lead to a relatively limited recoverability of the real estate market in this cycle. If the land market continues to be sluggish, it may further drag down the government-related business income and refinancing capabilities of urban investment platforms, leading to a deterioration of the cash flow situation of these platforms.

Reiterate the viewpoint: In the medium term, focus on two logical chains, 1. The "economic expectation repair" logical chain, where the upstream of the real estate and infrastructure chains may benefit relatively, with attention to construction, mechanical equipment, and ferrous and non-ferrous metals; 2. The "liquidity shock mitigation" logical chain, where sectors that have previously experienced excessive declines may benefit from an emotional repair, with attention to computers, electronics, and chemicals.