China's manufacturing surprises with growth in February

China's manufacturing sector expanded for the first time in four months in February, a private survey showed on Wednesday, surprising investors who were expecting a contraction.

The flash HSBC Purchasing Managers' Index (PMI) rose to 50.1 from January's 49.7 final reading, above the 50-mark which demarcates expansion from contraction and better than a Reuters poll expecting a 49.5 print.

Factory activity contracted in both January and December, after stalling in November.

Reaction in markets was positive: the Australian dollar rose against both the U.S. dollar and the yen, while China's Shanghai Composite index pared losses to bounce into positive territory and Hong Kong's Hang Seng index held near the flatline.

But a deeper dive into the data revealed worrying signs. The new export orders sub-index shrank for the first time since April last year, skidding to 47.1, pointing to weak external demand.

Input and output prices also fell, while employment in factories shrank for the 16th straight month.

"Today's data point to a marginal improvement in the Chinese manufacturing sector going into the Chinese New Year period in February," said Hongbin Qu, chief economist of China & co- head of Asian Economic Research at HSBC. "However, domestic economic activity is likely to remain sluggish and external demand looks uncertain."

China's economy grew 7.4 percent in 2014, its slowest pace in 24 years, hurt by a cooling property market, sluggish domestic demand and volatile exports.

147518478FL00021_Chinese_En
Getty Images

The People's Bank of China has responded with stimulus injection, enacting a surprise rate cut in November followed by a cut to reserve requirements of major banks earlier this month.

Analysts are penciling more easing to come, even as upcoming data might suggest an improving economy.

"Despite today's better-than-expected PMI reading, economic momentum remains subdued. However, this continued weakness may not immediately translate into slower headline growth in key metrics such as industrial production and fixed investment as these slowed sharply at the start of last year, which should provide a flattering base for comparison," said Julian Evans-Pritchard, China economist with Capital Economics.

"That said, unless momentum sees a much more substantial improvement over the coming months, headline growth will begin to suffer in Q2," he noted.

"We believe more policy easing is still warranted at the current stage to support growth," HSBC's Qu added.