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Chinese markets are on a 'runaway train' even after solid gains in February, analyst says

Key Points
  • Shares in mainland China continued their upward trek on Monday after seeing blockbuster gains in February.
  • Analysts who spoke to CNBC attributed the gains to a series of factors, including trade optimism and Beijing's economic policies.
  • However, concerns over the fundamentals in China remain.
Investors watch the electronic board at a stock exchange hall on February 11, 2019 in Chengdu, Sichuan Province of China.
An Yuan | China News Service | Visual China Group | Getty Images

Chinese stock markets continued to charge forward on Monday after seeing massive gains in February, and according to some analysts, the outlook remains robust.

The Shanghai composite ended the day above the 3,000 level for the first time since June 2018 on Monday, while shares in Shenzhen skyrocketed more than 2 percent. Reuters reported that in February, the benchmark index in Shanghai saw its biggest monthly gain since April 2015.

"I think momentum is ... very, very strong. It's very difficult to stop a runaway train," Hao Hong, head of research and chief strategist at Bank of Communications International, told CNBC's "Street Signs" on Monday. "Most people are piling money into the stock market, especially the retail investors."

In Hong's opinion, the increased sentiment and participation of retail investors in China have given a jolt to the country's markets.

"It's very ... difficult to argue against such a strong trend," he said.

I think momentum is ... very, very strong. It's very difficult to stop a runaway train.
Hao Hong
head of research and chief strategist at Bank of Communications International

Those views were echoed by another strategist, Kevin Leung of Haitong International Securities, who told CNBC in an email that the Chinese domestic markets have "shown strength recently."

Optimism and policies

Leung said there were three factors behind the strong rally in Chinese stocks.

Firstly, investors now appeared to be "more optimistic" about the direction of U.S.-China trade negotiations, he said: "Even if it doesn't get better, (people) are now expecting it not to be worse."

The Wall Street Journal reported Sunday that the U.S. and China are "in the final stage of completing a trade deal," with Beijing offering to lower tariffs on U.S. products in categories ranging from chemicals to autos. For its part, the U.S. is considering eliminating most, if not all, of the trade sanctions placed on Chinese goods last year, according to the Journal.

This was in contrast to 2018, when markets in China were "pricing in pretty bad scenarios" around issues such as the state of the country's economy and the trade war between Beijing and Washington, Leung added.

Secondly, Leung said, capital appeared to be returning to Chinese shares as a result of policies introduced by Beijing to boost the country's currency, stock market and real economy.

"Given China is a momentum-driven market, capital inflow will lead to even more capital inflow," he said.

The third factor was last week's decision by global index provider MSCI to substantially increase the weighting of mainland China shares in its benchmarks. This, Leung said, was a move that would likely draw more foreign institutional capital into the Chinese market.

"(The) MSCI's decision on A-shares' higher weighting will fuel the already cheap A-shares to go higher," said Jackson Wong, associate director at Huarong International Securities. A "significantly higher turnover" in the Chinese markets indicated that a "bull-run is forming," he added.

Overall, mainland Chinese shares are likely to trade higher this year, said Haitong's Leung, as long as the "worst case scenarios" for the economy and trade negotiations do not come to fruition.

'Weak' fundamentals

However, Hong from the Bank of Communications expressed concern over the fundamentals in China, which he said remained "weak" despite the "surging" markets.

In particular, Hong pointed to the Chinese property market, which he said was "between a rock and a hard place."

The property bubble in China was "quite visible," he said, adding that the price of real estate in China is "probably the highest in the world" in relation to the average disposable income in the country. As a result, it will be "a little difficult" to see how the property bubble could grow much bigger.

As a result of policy limitations in the primary and secondary markets, real estate companies don't have the cash right now to develop the land they bought over the past two years, Hong said.

On the flip side, however, the real estate industry is "one of the most important sectors in China," and has the potential to lift the economy if it does well, Hong said.

"If you can ... make the property investment recover from here, then it actually has a huge multiplier effect and makes the Chinese economy stronger and fundamentals look better," he said.