To The Moon

For two years, China's stocks have experienced a bear market, putting even the most patient investors to the test. Several false starts have occurred, where initially promising gains reversed course, leading to understandable investor skepticism about China stock recovery. To mitigate disappointment and avoid impulsive selling, it is better to set low short-term expectations. On the other hand, maintaining high long-term expectations can serve as motivation to remain patient and hold investments for a potentially significant future payoff. This attitude characterizes one approach to the current rally in China.

The recent rally in China stocks can be attributed to the Politburo meeting, during which the narrative supporting the economy was emphasized. Top leaders made commitments to provide increased policy support for the troubled real estate sector, as well as efforts to boost consumption and resolve local government debt. This narrative isn’t new but probably it has finally reached a tipping point, as funds flowed into China stocks fueling the rally.

Many of the well-known Chinese companies have made 5% gains or more in the past week:

In the previous post, we discussed how ADRs are expected to be the top performers, and indeed, they have shown significant gains over the past week.

If you find the process of buying individual ADRs tedious or are unsure about how to select them, an alternative approach is to invest in the Invesco Golden Dragon China ETF (PGJ). This ETF focuses on investing in US exchange-listed companies that are either headquartered or incorporated in China, essentially comprising a basket of ADRs.

PGJ has demonstrated better performance compared to MSCI China, CSI 300, and Hang Seng Tech Index. However, it's important to note that PGJ may not be the ideal choice for long-term holdings due to its concentration in a limited selection of China tech stocks listed in the US, which can lead to higher volatility in their share prices. As a result, we believe that PGJ is better suited for a short-term recovery play centered around the China theme, spanning weeks to months.

We are of the opinion that there is still an opportunity to invest in China stocks, as a considerable number of them remain undervalued.

To illustrate, we can take the Hang Seng index as a proxy, and by examining its PE Ratio, we find it currently stands at 9.2x, which is below the average of 12.01. Furthermore, it is trading close to approximately -1 standard deviation from the average PE. These observations strongly indicate that the stocks are undervalued at the moment.

From a technical analysis perspective, a similar conclusion can be drawn. The Hang Seng Index (HSI) is currently situated at the lower end of its long-term trend line, indicating significant potential for upward movement and ample room for growth.

Over the next few weeks, we will analyze individual China stocks and share our trade ideas on Growth Dragons Substack.