Société Générale Société anonyme: The third quarter is a turning point for Asian stock markets, "China trade" returns

Société Générale recently reported that the third quarter may become a key turning point for Asian stock markets, with "China trade" regaining investors' attention.

Since hitting bottom on January 22nd this year, the MSCI China Index has risen by 24%, leading to a "silent bull market." Frank Benzimra, Head of Asian Stock Strategies at Société Générale, stated that the Chinese stock market is entering the third phase of a tactical rebound, with positive signals emerging in corporate earnings. The report mentioned that amid increasingly expensive valuations in global markets, Chinese company valuations are particularly attractive.

Regarding the Japanese stock market, Société Générale is more optimistic about the Japanese financial sector and value investing style stocks. As for the Indian market, the bank maintains a relatively cautious stance, believing that factors such as high valuations may constrain upside potential.

1. "China Trade" Returns, Chinese Stock Market Enters the Third Phase of Tactical Rebound

Since hitting bottom on January 22nd this year, the MSCI China Index has quietly risen by 24%, leading to a "silent bull market."

Frank Benzimra, Head of Asian Stock Strategies at Société Générale, believes that the Chinese stock market is entering the third phase of a tactical rebound. The first phase saw the national team and financial regulatory agencies play a key role. The second phase began with new policies in the real estate market, signaling stronger policy support. Currently, the market may be entering the third phase, with positive signals in corporate earnings.

After reviewing the first-quarter financial reports of Chinese companies, Benzimra stated:

"We see that corporate earnings are strengthening on a month-on-month basis, the pace of downward revisions is slowing, and earnings breadth is improving from a low level."

Notably, amidst increasingly expensive valuations in global markets, Benzimra also emphasized the "attractiveness" of Chinese company valuations in the report: "The valuation attractiveness observed three months ago still exists." Furthermore, Benzimra added:

"Our model shows that if the long-term profit growth rate increases by 1 percentage point, the MSCI China Index is expected to rise by 80%.

Conversely, if it decreases by 1 percentage point, stock prices will only fall by 18%."

Based on this assessment, Société Générale recommends investors focus on three types of stocks: offshore market stocks, large-cap stocks with strong profitability resilience, and stocks that can stably pay dividends.

2. Japan: Focus on Financial Sector and Value Stocks

Turning to the Japanese market, Benzimra stated that the fundamentals supporting the nearly 12-year bull market remain solid. "Corporate governance reforms have been significant, and the gradual tightening of monetary policy are positive factors," he said, "but investors need to be cautious of risks brought by fluctuations in the Japanese yen exchange rate."

In the current environment, Société Générale is more bullish on the Japanese financial sector and value investing style stocks. Regarding financial stocks, Benzimra believes: Over the past four years, the performance of Dongzheng Bank and insurance stocks has been significantly better than the market, outperforming the Dongzheng Index by 128% and 149% respectively. They have been and will continue to be beneficiaries of corporate governance reforms...

They also continue to benefit from the policies of the Bank of Japan. The Bank of Japan is expected to reduce its purchases of Japanese government bonds this summer, which is expected to further steepen the yield curve of Japanese government bonds.

In terms of value stocks, Benzimra stated:

"Steep yield curve and governance reforms are supporting the entire value investment style.

Since the Tokyo Stock Exchange pushed listed companies to improve capital efficiency (March 2023), governance reform has been in the implementation stage... The companies with the lowest valuations have the highest enthusiasm for stock buybacks. The proportion of companies with a price-to-book ratio below 1 in the Dongzheng Index has decreased from around 60% in early 2023 to the current 40%."

3. India: High Valuations May Constrain Upside

For the Indian market, Société Générale is relatively cautious. Benzimra explained:

"Although political uncertainty has dissipated after the general election, the market faces multiple challenges: valuations are high, profit growth is slowing, foreign investors are not very interested, and domestic investors are already heavily invested... These factors may constrain the upside potential of the market."

In the short term, Société Générale's Benzimra team recommends investors to reduce holdings in industrial sectors with high valuations and instead increase holdings in bank stocks:

Currently, with Modi's third consecutive term, political and policy uncertainties have dissipated. Nevertheless, we expect the outstanding performance of high-valuation industrial stocks to pause. Over the past three years, the industry has been the biggest beneficiary of government-driven capital expenditure. Although the market generally expects profit growth to slow significantly from last year's 60% to less than 20% by 2024, the industry's historical price-to-earnings ratio still exceeds 40 times (twice the 20-year average level).

In stark contrast, banks have missed out on the rebound of the capital expenditure industry due to their own specific reasons, including corporate actions of large banks and net interest margin contraction. However, credit growth, return on equity, and asset quality are at their highest levels in eight years. We believe that with the decline in deposit rate pressure as expectations of monetary policy easing decrease, banks are one of the few industries that provide value.

This article is mainly based on the report from Société Générale: "Asia Equity Strategy: 3Q24 Outlook – Inflection points"