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Overview
The benchmark China index (CSI 300) is down some 16% from February’s record. Over the past five weeks or so, the market has been in a ~5% range.
The fundamental backdrop is that the Chinese central bank remains committed to gradually tightening liquidity and reducing some of the most exuberant aspects of its financial system. This will continue to weigh on a stock market that is expensive compared to its own long-term averages, with a forward-looking P/E of 13.7 vs 10-yr average of 12.4.
Chart 7: Chinese equities struggling (CSI300 Index)
Source: Bloomberg
First it was bond yields rolling over. Then, cyclical stocks took a hit with energy, financials and industrial led equities declining. The cyclical / defensive sector ratio peaked about a month ago.
That might be a little pre-mature. Economic activity is still growing rapidly as shown by the rise in the manufacturing PMI survey. The close relationship between the PMI survey and the ratio of cyclicals to defensives has been pretty tight.
Chart 8: Cyclical stocks vs manufacturing activity
Source: Bloomberg
For all the talk of a resurgence in value stocks the data tell a different story. Rather than cheap stocks being at the heart of the recent leg up in equities, it is cyclical sectors that are the main driver.
That outperformance of cyclicals over defensives has been challenged in April. Month-to-date defensive sectors in the US are up 5% compared to a 2.9% rise for cyclicals. At the same time, the growth bias is back rising by 7.3% compared to a 3.1% rise for value stocks.
Chart 9: Value has not rebounded as strongly as cyclicals
Source: Bloomberg
