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Four factors that can sustain a bull rally

By Zhang Ming | China Daily | Updated: 2020-07-17 09:58
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Investors check the stock information in a stock exchange in Jiujiang, Jiangxi province, on July 10. [Photo/HU GUOLIN FOR CHINA DAILY]

On the other hand, with the slowing down of China's economic growth and the continuity of macroeconomic regulation, financial risks associated with loans to local government financing vehicles and real estate developers-key asset classes to which wealth management funds and trust funds are allocated-have begun to be gradually exposed.

As a result, trust funds and banks' wealth management funds are more inclined to largely increase their holdings of A shares via channels including mutual funds, private equity funds and exchange-traded funds. The transition of fund allocations by institutional investors is favorable to the formation of the current bull market.

Whether or not wealth management funds and trust funds continue to flow massively into the stock market depends on the judgment of regulators regarding potential risks. If regulators believe that an ongoing overly rapid stock market surge may trigger relatively high risks, they may tighten regulation of the size and the proportion of wealth management funds and trust funds allocated to the stock market.

Third, as the impact of the novel coronavirus outbreak on global financial markets gradually comes to an end, the risk sentiment of global institutional investors is beginning to rise again.

Compared with other major markets, the fundamentals of China's stock market are more stable, and the valuations of its stock market are more attractive than that of the US stock market. Recently, massive inflows of northbound funds-mainly consisting of foreign capital and money by offshore Chinese firms flowing back to the Chinese mainland through Hong Kong-have driven a rapid increase in blue chip stock prices since the last 10 days of June.

However Sino-US economic and trade relations may continue to have difficulties. Geopolitical tensions in the Middle East may also intensify. Considering all these factors, we cannot rule out the possibility that global financial markets may become turbulent in the second half and China may see capital outflows once again.

Finally, policies that regulators have launched or will launch have boosted investor confidence in the stock market. For instance, regulators are considering whether or not to grant securities licenses to some commercial banks, and rumors say that regulators will encourage mergers between large brokerages. These policy measures stimulated rises in stock indexes, China concepts stocks and stocks in the banking and securities sectors.

But the market may have over-interpreted these reform measures, some of which may not be launched. Therefore, enthusiasm ignited by financial reforms may face the risk of a correction.

It is not hard to see that the first three factors driving hikes in the A-share market are all related to liquidity, rather than economic fundamentals.

In summary, China's stock market may be in the middle of the current bull rally, which will continue for a while, but market volatility and financial risks will increase.

We may see performance divergence among stocks once again, and the market will pay high attention to marginal changes in various types of liquidity.

Under current circumstances, retail investors should pay particular attention to risks that may exist in individual stocks and sectors whose valuations are high despite their weak business performance.

The writer is director of the department of international investment at the Institute of World Economics and Politics, the Chinese Academy of Social Sciences.

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