The divergence in the performance of the US stock market and China's A-shares has been notable this yearThe US stock market, underpinned by leading tech giants, has shown signs of a bullish atmosphere, while the A-share market remains active but with weak performance in its key indicesAs we move into the latter half of the year, global investors are keenly observing the dynamics of these two major marketsWill the US tech bull run continue? Is there emerging investment value in China’s A-shares?

Recently, numerous global asset management giants have provided their outlooks on key markets for the second half of the yearSome institutional investors predict that the US economy will remain at risk of recession, which, coupled with ongoing declines in overall corporate profitability, suggests that US stocks lack sufficient fundamental support, necessitating a downward adjustment in valuations

In contrast, China’s A-share market, now valued at historical lows, stands to benefit substantially from robust policy support and ongoing economic recovery, significantly enhancing its investment allure.

The probability of a US recession is estimated at 30%

Policy interest rates may remain elevated for the long term

On July 6, Zurich-based Pictet Wealth Management released its global economic outlook for the second half of 2023. Chen Dong, head of Asian macroeconomic research at Pictet, noted that although tightening monetary policies may delay a recession in the US economy, it will not be completely avoided; he suggests a recession could still manifest in the latter half of the year

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He explained, "The reason the US hasn’t yet entered a recession is largely due to the rate hikes from the tightening of monetary policy, which has yet to fully translate into the real economy—especially in the real estate sector, where clear indications of strain have yet to surface."

Moreover, Chen pointed out that the US recently underwent a banking crisis, with three regional banks failing—these banks totaled $550 billion in assets, greater than the assets involved in bank failures during the 2008 financial crisisDespite swift intervention by the Federal Reserve and other regulators to prevent wider risk, the tightening of credit standards by these regional banks continues to indirectly impact the real economy.

At the same time, the current inventory-to-sales ratio among wholesalers in the US is at a historically high level, indicating that further de-stocking may occur, putting additional pressure on domestic manufacturing and exerting downward momentum on global manufacturing.

Aligning with Chen Dong’s views, Preston Caldwell, Director of Economic Research at Morningstar, assessed that a recession in the US economy is likely, with a roughly 30% chance of entering a recession within the next twelve months

He also anticipates another Federal Fund rate increase in July 2023, with potential rate cuts not starting until February 2024. Morningstar's reports indicate that the Federal Reserve is projected to actively lower the Federal Fund rate during 2024 and 2025.

However, at a recent share event hosted by Invesco titled “2023 Mid-Year Global Investment Outlook,” Zhao Yaoting, Global Market Strategist (excluding Japan) at Invesco, expressed that the likelihood of the Federal Reserve increasing rates by a further 50 basis points this year is lowThe Fed appears intent on portraying a hawkish stance without wanting financial conditions to ease too quicklyHe believes it more likely that there will be one more increase of 25 basis points before the year ends, potentially in the current month

"If there's a 50 basis point hike, it may be overly aggressiveHistorically, once the Fed signals a clear end to tightening policies or concludes the rate increase cycle, markets tend to experience a strong rebound; I expect the US may follow suit," he stated.

Looking toward the longer-term outlook of the Federal Reserve's monetary policy, Chen Dong indicated that policy rates in the US may remain elevated for an extended period, delaying any entry into a rate cut cycle"From a long-term perspective, inflation may stabilize above levels seen over the past decade, potentially creating an environment that combines low growth with high inflation for investors," he noted.

Three Factors Supporting

Sustained Recovery of the Chinese Economy

By comparison, the recovery of the Chinese economy in the first half of this year has been underwhelming

However, global asset managers believe that the economic recovery in China is set to continue in the latter half of the year, albeit its strength and pace will depend on the level of policy support.

Chen stated that regarding household consumption, the nominal retail sales in China remain significantly below pre-COVID levels and have a substantial gap from their peak in 2021. Thus, there remains considerable room for economic growth from the consumer sideHe also observed that household savings are higher than ever, indicating a degree of excessive precaution reflecting a lack of confidence in the current economyChen argues for the necessity of intensified short-term stimulus for the economy, particularly in the real estate sector, noting that only by reversing this cautious sentiment can the economy restart.

Andy Rothman, an Asia Investment Strategist at Matthews, who lived in Shanghai and Beijing for 19 years, recently traveled across these cities

He believes that the consumer-led recovery in China is progressing well and likely to endureHe noted that the resilience of Chinese entrepreneurs and pragmatic government policies can overcome temporary challenges posed by weak manufacturing, low private sector investment, and high youth unemployment rates“Currently, the economy is at an early stage of a consumer-led gradual recovery, likely sustained by accommodative policies and significant household savings,” he asserted.

Rothman emphasized several factors that may underpin this consumer-driven economic recovery: Firstly, consumers have the capacity to purchase, as inflation-adjusted income grew by 3.8% year-on-year in the first quarter—the fastest quarterly growth rate since Q2 2022. Since 2020, Chinese households have adopted a saving mode, with domestic investors accounting for about 95% of the mainland stock market; this high savings rate significantly supports rebounds in consumer spending and overall stock market recovery.

Secondly, the Chinese central bank may continue to implement looser policies, while other regions might adopt tighter measures.

Thirdly, both Chinese enterprises and consumers display considerable resilience, supported by pragmatic government action

Rothman noted the remarkable progress seen since his first student visit to China in 1980: average incomes have increased by 148 times, adult literacy rates rose from 66% to 97%, the number of university graduates surged from 150,000 to 11 million, and homeownership rose to about 90% from virtually nilIn the last decade, real per capita income in China has grown at an annual rate of 6.2%, compared to 1.4% in the United States and 1% in the United Kingdom.

While Rothman remains optimistic about the Chinese economy, he underscores three significant challenges facing recovery: the lackluster industrial output and private sector investment in the first four months of this year, both of which rebounded less than expected, driven by slow new construction and auto sales

Additionally, the weak industrial activity and private investment have led to a concerning rise in youth unemployment for urban residents ages 16-24, from 18% in February to 20% in AprilRothman hopes regulators will encourage national bodies and state-owned enterprises to employ more young individuals to alleviate these challenges.

Potential Adjustment in US Stock Valuations

Positive Outlook for China’s Electric Vehicles and Advanced Manufacturing

This year, growth stocks in the US have dramatically outperformed global markets

In response to this trend, Jia Wenjian, head of diversified asset investment and management at Pictet Wealth Management’s Asia branch, remarked that US corporate earnings peaked around mid-2022 and have since been on a continual downtrendHe predicts that corporate earnings will continue to decline in the second half of the year, indicating that US stocks lack adequate fundamental supportMoreover, historical averages suggest that the long-term price-earnings ratio curve for the US is around 15 times, which is below the current 19 times ratioUnder these circumstances, with limited growth potential in US corporate earnings, the likelihood of a downtrend in price-earnings ratios increases.

Jia acknowledges a more favorable investment opportunity in Chinese stocks, primarily due to their attractive low valuations

“The current valuation of the MSCI China Index stands roughly at 9.8 times, and the Chinese stock market is not only low relative to its historical average but also more favorable compared to other emerging markets and developed economies,” he highlighted.

From a valuation perspective, Jia believes that the Chinese market is approaching its bottomHe emphasized that if favorable policies are enacted in the second half of the year and earnings show a rebound, this will support positive trends in the overall Chinese stock marketIn light of global economic slowdown and relatively lenient fiscal and monetary policies in China, the market presents a considerable allure.

As for investment opportunities in the A-share market for the second half of the year, Zhao Yaoting places significant importance on sectors that receive policy support, such as high-end manufacturing that includes electric vehicles

With respect to the thriving AI sector, Zhao noted that the prosperity of the AI industry currently hinges on the profitability of related enterprises“Returning to the US, the AI sector has yielded double-digit returns in the Nasdaq, which is highly sensitive to interest rates; this reflects both a severe underestimation by stock investors of likely future monetary policy changes and the genuine excitement surrounding the AI industryThe flourishing AI industry will ultimately depend on the profitability of its related firmsWhether this will extend to impact the broader technology sector remains plausibleWe believe that generative AI and conventional AI are significantly different, with generative AI poised to noticeably enhance business efficiency and operationsAlthough its impact may not rival the rise of the internet in the 1990s, it’s bound to have a profound influence on other emerging trends, like the metaverse,” he remarked.

Zhao further elaborated that American companies in the AI field have performed remarkably well primarily due to their capabilities in both hardware (such as semiconductor chips) and software, while China's strength lies primarily in software