2015 is the year of the sheep according to the Chinese zodiac calendar, and is associated with the characteristics of calmness and prosperity.
Only one of those applies to Chinese equity markets at present - and it is certainly not calmness. The domestic stock market in China has gained nearly 100 per cent in the last 12 months and valuations in the market are starting to look very lofty, prompting calls of a market bubble. The demand for equities is so great from Chinese investors that enthusiasm is spilling over into the Hong Kong market. So can the momentum in Chinese equities be sustained, or is this really a bubble on the brink of bursting?
First, a few technicalities.The local Chinese market is known as the A-share market. A-shares are stocks in companies that can only be purchased by local Chinese investors or by foreign investors who have been given special access. Chinese companies that want to access international capital markets can also list on the Hong Kong stock exchange and have an H-share or international share class. If the same company is listed on both exchanges, it can trade at different prices because each can only be accessed by certain investors. This is why A-share stocks have historically been more expensive than the H-share stocks.
Near the start of the year, the Shanghai-Hong Kong Stock Connect programme was launched, allowing investors in China to invest in the H-share stocks and investors in Hong Kong to invest in the A-share class. However, the amount of money that could flow north and south was restricted, as were the investors who could access it. But as the A-share market hit a seven-year high, the restrictions on who could use the Stock Connect programme were relaxed, allowing Chinese mutual funds to take part in the programme.
The euphoria of Chinese investors at being able to buy the cheaper H-share market is clearly evident in the surge of new investment accounts being opened in China, with a jump to 1,670,000 against an average March value of 240,000. To some degree, this enthusiasm is being propagated by the Chinese government,which wants investors to shift their focus from the increasingly expensive local market to an international one.
The market rally has been staggering, with the Hong Kong Hang Seng Index gaining just over 10 per cent in three days - up 17 per cent this year. This is not stopping the money flowing and the Stock Connect’s daily quota of US$1.7bn (£1.14bn) continues to be tested. This has led to speculation about a possible bubble, but the trouble with bubbles is that they are very hard to identify until they have popped.
Any asset or market index that rises this far, this fast is ripe for a large correction and some near-term consolidation or profit-taking seems sensible. However, over a more medium-term timeframe, the H-share rally could continue.
