Bullish on a Corrected Bubble: Chinese A Shares

Chinese A Shares CSI 300: Bullish over the next three to six months at 3,886, as of July 5, 2015.

As much as we were bearish on the Chinese stock market about one and two months ago based on several indicators including the following table detailing each sector’s PE within the stock market, we did not short the Chinese A shares. We thought it was too early to do so and we underestimated how much negative impact the initial deleveraging process could create to the much leveraged market. The initial deleveraging process actually turned out to be a major one, which triggered an entire negative self-reinforcement process, as the positive bias suddenly shifted to the negative bias. It reminded us just how fragile the whole market was.

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Now, after a 30% correction, we have turned ourselves and joined the bull camp, while many retail investors in China have turned panic about the stock market. As we expected, the central bank has stepped in and the government has provided further policy support, and they still have the capability to turn the expectations around this time, but maybe not next time when they are caught off guard.

In addition, the housing market has not reached the stage that average Chinese will just shift their assets out from the stock market to the real estate market, yet; however, the real estate market has turned around and we expect the first- and second-tier cities continue to warm up . The planned liberalization of the financial markets have not been fully completed. The pension funds within China have been planned to enter the stock market. It was the deleveraging process that triggered a shift of positive bias in the markets. That said, now, it’s hard to be incredibly bearish with the second largest central bank to flush the market with liquidity and change the expectations. It’s hard to bet against a fully aware and powerful government and a central bank with a printing press this time. The negative downward self-reinforcement process seems to be broken now.

We have a bullish view about the Chinese stock market over the next three to six months. We are currently long ASHR.

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