Shenzhen stocks beats Shanghai peers most since 2008

[SHANGHAI] Just as Shanghai was starting to enjoy the title of favorite destination for Chinese stock investors, the nation's smaller bourse in Shenzhen is stealing it back.

The Shenzhen Composite Index of companies traded in the Southern Chinese city has climbed 6.2 per cent during the past month, beating the Shanghai Composite Index by 13 percentage points in the biggest outperformance since 2008. The Shanghai gauge had led gains last quarter for the first time in two years as the city opened up to international investors through its exchange link with Hong Kong.

Shenzhen shares from Han's Laser Technology Industry Group to Wanda Cinema Line Co. are regaining the lead after the bourse said it will replicate its northern counterpart's link, which allows foreigners to buy as much as 300 billion yuan (US$48 billion) of mainland shares. The smaller exchange's higher concentration of stocks that benefit from government efforts to boost the technology and consumer industries give Shenzhen an edge as it opens up, according to Spring Capital Ltd.

"The Shenzhen-Hong Kong connect will be the catalyst for outperformance," Jenny Tian, a Hong Kong-based money manager at Spring Capital, which oversees US$3 billion, said by phone on Jan 26. "The Shanghai market is typically populated by old economy stocks, while Shenzhen is more emerging industry stocks." Services Push The Shenzhen Composite has rallied 389 per cent during the past decade, compared with a 147 per cent gain for its Shanghai counterpart, as authorities sought to push the economy toward domestic consumption and away from investment and exports. Technology, consumer and health-care companies, known as "new economy" stocks, make up almost half the Shenzhen gauge, while state-backed banks and industrial conglomerates dominate Shanghai's bourse.

Services made up 48.2 per cent of China's gross domestic product in 2014, up 1.3 percentage points from a year earlier, as the world's second-largest economy expanded at the slowest pace since 1990.

Han's Laser Technology is one example of Shenzhen's emergence as a technology hub. The shares have jumped 354 per cent since 2005 as it became a supplier to Apple Inc. The city bordering Hong Kong has also become a haven for initial public offerings, with companies that completed new share sales this year posting an average gain of 238 per cent.

"The new economy sectors, electronics and health care, should continue to deliver stronger-than-average earnings this year," said Yuliang Chang, the chief China equity strategist at Deutsche Bank AG in Hong Kong. "Growth momentum remains intact." The 1,663 companies in the Shenzhen Composite are projected to boost earnings by 75 per cent over the next 12 months, compared with 28 per cent for the 1,042 companies in the Shanghai Composite, according to analyst estimates compiled by Bloomberg.

Gains for Shenzhen stocks may not last long, according to Bocom International Holdings.

"This trend will last for weeks, probably not months," said Hao Hong, the head of China research at Bocom in Hong Kong. "I still like the big blue-chip names with lower valuation. They should continue to lead, especially the ones with SOE reform themes." Even after the Shanghai Composite's world-beating 53 per cent rally last year, the gauge trades at just 14 times reported profit. That's compares with multiples of 37 for the Shenzhen Composite and 67 for the ChiNext Index of smaller companies in the city. Both the Shenzhen and Shanghai indexes fell 0.4 per cent at 9:51 a.m. on Friday.

HSBC Jintrust Fund Management fund manager Liu Dongrong predicts the Shanghai index will extend its outperformance, buoyed by cheap valuations.

"We think blue chips have more of an edge," said Mr Liu, whose Large-Cap Fund has returned 68 per cent over the past three months, ranked second among 427 stock mutual funds tracked by research firm Howbuy. "Though gains in blue chips are considerable, overall valuations are still relatively low and earnings will bottom out this year." President Xi Jinping's government is opening up state-run companies, including PetroChina and China Petroleum & Chemical, to private investment and has spurred banks to offer stock incentives to employees.

"SOE reform will continue to be one of the most important investment themes," said Steven Rees, the global head of equity strategy at JPMorgan Private Bank, which oversees about US$1.1 trillion.

While no start date has been set for the Shenzhen-Hong Kong link, investors anticipate the connect will allow foreign investors to access the city's largest companies.

Premier Li Keqiang has given his blessing for a link, the Shenzhen Special Zone Daily reported on its website Jan 5. The basic framework will be the same as the Hong Kong-Shanghai connect, the Shenzhen Stock Exchange said in a Feb 2 statement.

Foreign investors have purchased about 95 billion yuan of Shanghai shares through the Hong Kong stock connect since it started in November, according to data compiled by Bloomberg.

"This year, there's a better chance for the Shenzhen market to outperform," said Spring Capital's Tian. "The Shenzhen market looks more interesting to us."

BLOOMBERG