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China’s Stock Market Revs Up Just as Others Retreat

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The Shanghai Composite Index has gained about 5 percent since late September, just as other major stock markets have ceded recent gains, leading to some hope that the fortunes of China's battered stock market may finally be turning.

China's stock market remains the worst performing major Asian equity market this year, but the rally this week means its fall of about 3.5 percent in the year to date no longer looks so bad — Japan's Topix index, broad measure of the Japanese stock market, is down about 1.6 percent this year.

"The trend is picking up, " said Chen Jiahe, an analyst at Cinda Securities in Beijing, adding that based on a technical analysis of the Shanghai Composite's 20-day moving average over the past 20 years, there is further room for gains.

"When the trend is up and valuations are cheap, don't try to predict when it will end, " Chen said.

The Shanghai Composite is trading at a historically low valuation of about 10 times earnings.

According to some analysts, China's stock rally can be explained by a massive cash injection into money markets by the central bank, with the extra liquidity spilling over into equity markets.

"Now that money market rates have gone down, it is easier to hold assets, " said Dariusz Kowalczyk, senior economist at Credit Agricole in Hong Kong. "The move in the stock markets is primarily a result of improved liquidity conditions."

China's central bank used a financial instrument called the reverse-repurchase agreement, which is like a short-term loan, to inject $42.14 billion, or 265 billion yuan, into the money market earlier this week.

The injection of liquidity was the second biggest ever and designed to lower the borrowing costs of firms grappling with slow growth.

"Chinese equity markets and the economy are driven very much by liquidity. The liquidity and stock performance cycles over the past 15 years are identical, " said Chen.

Reason for Skepticism

Jackson Wong, vice president at Tanrich Securities, said that talk of further stimulus measures to boost China's slowing economy ahead of the Nov. 8 Communist party congress have helped fuel the stock market rally, which is likely to run out of steam.

"Despite the rumors here or there, we haven't seen anything concrete yet, " Wong said.

There has been some disappointment in financial markets with Beijing's reluctance to deliver measures, whether in terms of monetary policy or a fiscal boost, to underpin the economy.

This week has seen some small stimulus steps unveiled. Chinese high-speed rail plays received a boost, for instance, after the Ministry of Railways this week revised upward its planned investment for the sector by $3.2 billion. It was the third such increase this year.

Central Huijin, an arm of China's sovereign wealth fund China Investment Corp., meanwhile said this week it would continue to shore up the capital market by buying stakes of four-major state-owned lenders.

Watch That Data

Analysts said the raft of economic data slated for release in the week ahead could now decide whether Chinese shares fall back or add to this week's gains.

September trade numbers are released Saturday, while consumer and producer price numbers, third-quarter gross domestic product , industrial output, retail sales, and fixed–asset investment figures are all due during the week.

Jackson Wong said he would keep a close eye on the consumer and producer inflation data.

"The delicate balance between these two numbers will test officials in how they can roll out pro-growth policies, " he said, adding the fixed-asset investment data could be a test of how bullish investors are about the health of the Chinese economy.

—By CNBC's Deirdre Wang Morris