Chinese Equities: Opportunities Amid The Chaos

The Chinese equity market is now completely detached from the fundamentals. After calling a bottom in Chinese stocks back in mid-2014, we have seen a sea change in almost every aspect of the market.

Sentiment among domestic investors has gone from despondent to euphoric; valuations have gone from cheap to extremely expensive; volume has gone from lacklustre to new record highs.

And all this has occurred in spite of any noteworthy improvement in the real economy. The bullish argument at present seems to rest largely on the inclusion of mainland stocks in the MSCI's benchmark indices, which would trigger a wave of buying by benchmark-tracking fund managers. This would theoretically provide a tailwind to the Shanghai Composite Index, but it seems to be very widely expected, and unlikely to be a game changer.

We remain confident that the valuation gap between Shanghai and Hong Kong will close over the coming months, and we continue to hold a bullish view on the Hang Seng China Enterprises Index, which trades at an extreme discount to mainland-listed indices. We hold a bearish view on China's AH Premium Index.