Chinese equity traders bet US$3b on small-cap revival

[HONG KONG] Equity investors in China are taking a flyer on a strategy that hasn't worked in years, speculating small caps will soar on the country's sweeping plans to invigorate its fastest-growing firms.

China's three most popular exchange-traded funds in 2018 all track smaller stocks, luring some US$3 billion in net new assets, data compiled by Bloomberg show. While that's a tiny slice of the nation's US$7.4 trillion equity market, it's nearly 60 per cent of all the cash that's gone into stock funds trading in Shanghai or Shenzhen, according to the data.

Small caps have borne the brunt of China's deleveraging campaign since the 2015 stock bubble burst on concern they would struggle to cope with soaring funding costs. Though the ChiNext is once again down for the year, it's holding up better than a gauge tracking blue chips, a small win after it largely missed out on a two-year global bull market.

"China's push to encourage domestic listings of unicorn companies has triggered interest in small caps," said Patrick Dai, head of A-share research at Macquarie Commodities and Global Markets Group in Shanghai. "Investors are positioning for a potential rally in new-economy sectors because those listings would boost market sentiment."

In a bid to step up support for companies that can drive future growth as China's economy shifts away from manufacturing, policy makers have this year announced a growing list of measures that could eventually reshape its equity market. That includes a trial of so-called Chinese depositary receipts that would aim to bring home overseas-listed tech stars and attract high-profile new listings. Plans may also include a new biotech trading venue in Shanghai.

China's downbeat market doesn't bode well for its small caps, which rarely outperform when sentiment is depressed. The ChiNext was trading at the lowest level since 2013 relative to the FTSE China A50 Index of large stocks as recently as February. Recent optimism has helped it rebound 8.7 per cent since a low that month, better than the 3.1 per cent decline for the megacap gauge.

The ChiNext, made up of technology firms with some of the highest valuations on the mainland, may be one of the few ways retail investors can get a slice of tech because IPOs are often extremely competitive in China.

"These sectors are poised to rally as they benefit from policies supporting innovation and technology development," said Xi Cheng, a portfolio manager at E Fund Management, the provider of China's most popular equity ETF this year. "More investors are likely to turn from defensive stocks to those relatively stable companies with higher growth rate."

BLOOMBERG