Earnings surprises lifting Hong Kong and China stocks to new heights
Investors usually hate surprises, but they may be willing to make an exception for a recent string of better-than-expected earnings announcements
Investors usually hate surprises, but they may be willing to make an exception for a recent string of better-than-expected earnings announcements that has sent Hong Kong’s benchmark Hang Seng Index climbing to a 20-month high.
Mainland heavyweights Geely Automobile, Sinopec and Postal Savings Bank of China all announced 2016 earnings last month that exceeded consensus forecasts by at least 5%.
Meanwhile, Hong Kong-based CK Hutchison and AIA also topped estimates and pledged to reward shareholders with a dividend increase. CK Hutchison traded 8.6% higher so far this year through April 5, while the other stocks have each recorded double-digit gains.
Strong earnings reports have analysts hoping for even more good news going forward. Upward revisions to forward earnings outlooks in MSCI’s Hong Kong and China indices now outnumber downward ones by the largest ratio in more than five years, according to Yardeni Research. Meanwhile, DBS Group said 2017-18 earnings revisions improved 0.3% to 0.4% last month in the Hang Seng Index.
“Earnings turnaround is still on track for 2017,” DBS analysts including Alexander Lee wrote in an April report. “We expect earnings recovery can drive more upside for the Hong Kong market.”
DBS raised its year-end forecast for the Hang Seng Index last month from 24,600 to 26,200. Citi also raised its target for the benchmark, increasing its previous forecast 6.3% to 25,500. The index is up 10.9% this year through April 5 to 24,400.80.
Earnings growth combined with attractive valuations relative to US stocks is putting Asian equity markets back on the radar of international investors.
US-based funds that buy international stocks have attracted more than US$40 billion so far this year through March 22, the most since 2015. Incoming fund flows helped lift benchmark indices across the region to world-leading gains in the first quarter and stand to increase so long as earnings growth continues to deliver.
China stocks have been among the most sought after in the region as positive economic indicators have investors hoping the mainland economy is successfully switching to a domestic consumption-led model from one reliant on foreign exports.
Official data released last month showed China’s Purchasing Manager’s Index, a measurement of manufacturing activity, climbed to the highest level in nearly five years. Value-added industrial output growth has also picked up, rising 6.3% year on year in the January-February period versus a 6% increase in December. Meanwhile, retail sales growth increased 9.5% year on year in the first two months, albeit down from December’s 10.9% rise.
Automakers like Geely have benefited from the robust demand created by China’s economic growth. The Hangzhou-based company announced that its profit more than doubled last year to 5.1 billion yuan (US$739.9 million) following a 53.6% increase in domestic sales to 744,191 units. It is targeting sales of 1 million vehicles this year.
Increased economic activity and demand for fuel in China has also boosted the outlook for Sinopec. The world’s second-largest oil refiner grew profits by 43.8% to 46.4 billion yuan last year.
Meanwhile, China’s financial sector has also shown signs of stabilization as regulators try to clamp down on credit risk. The non-performing loan (NPL) ratio of commercial banks edged down 0.02% by year-end 2016 to 1.74%. Postal Savings Bank said profits last year increased 14.1% to 39.8 billion yuan and NPLs only amounted to 0.87% of total loans.
In Hong Kong, insurance provider AIA announced profit in the year through November 2016 jumped 50.6% to US$4.2 billion as the mainland became its second-largest regional market by new business value.
Improved economic conditions around the region have also led to more business opportunities for Hong Kong and China companies. China Communications Construction Co was awarded a 55 billion yuan project last year to build a railway connecting the east and west coasts of peninsular Malaysia. In February, developer Hongkong Land struck an agreement with Thailand’s Singha Estate for a super-luxury condominium project in Bangkok.
Aside from earnings upside, investors may also be snapping up Hong Kong and China stocks because of their attractive valuations.
After nose-diving more than 30% in a five-month stretch during 2015, the MSCI China Index has still not yet fully recovered and traded at 12.3 times forward earnings through March. The MSCI Hong Kong Index traded at 15.9 times forward earnings and the MSCI US Index traded at 18 times.
Martin Marnick, director at Motilal Oswal (HK), said, “It is more about bouncing off the bottom because we are coming from a very lower base.”
Not all stocks have enjoyed earnings boons either. Cathay Pacific last month reported its first loss since 2008 with a HK$575 million shortfall for 2016.
Among reasons for the decline, Hong Kong’s leading air carrier cited wrong-way fuel hedging bets and a strong US dollar that made its tickets more expensive for mainland consumers.
Meanwhile, Li & Fung announced its profits last year dropped 47% to US$223 million. The global supply chain manager is facing a structural challenge as development in e-commerce makes it progressively easier for producers and end-users to cut out the middleman.