CITIC Securities' 25-year Hong Kong stock strategy: pessimistic expectations may reverse. Industries with a more pronounced pro-cyclical nature and larger valuation elasticity may benefit relatively.

CITIC SEC released a research report stating that the current global dimension of Hong Kong stocks has a significant valuation advantage, and the income-side issues caused by price pressure in China are expected to gradually ease. Secondly, by October 2024, nearly HK$630 billion had flowed into the Southbound market, significantly increasing the influence of Chinese capital relative to foreign capital, especially in the mid and small-cap sectors. Finally, against the backdrop of a series of domestic policies gradually taking effect, investors are expected to shift their focus. In terms of industry allocation, industries with strong cyclical trends and greater valuation flexibility in the first half of 2025 are expected to benefit relatively. As the domestic real estate cycle stabilizes and consumer spending recovers, industries related to these sectors are expected to see a recovery in performance. Looking ahead to 2025, with a series of domestic policies gradually taking effect and improving investor expectations, Hong Kong stocks are expected to experience a turnaround. It is recommended to focus on: 1) Non-bank financials with strong beta properties, especially insurance and the Hong Kong Stock Exchange; 2) The technology and consumer sectors are expected to see continued valuation recovery, including internet, consumer electronics, biotechnology, and education. CITIC SEC's main points include: Reversal of pessimistic expectations, continuation of valuation recovery is expected The Hong Kong stock market, after experiencing consecutive negative events since the Spring Festival in 2021, has seen a longer decline than any bear market cycle since 1998, and its performance during this period has been the worst among major global markets. However, with internal policy support driving liquidity and improving trading conditions, the two bullish trends in the Hong Kong stock market this year have fully reflected the reversal of pessimistic sentiment. Since September 24, liquidity in Hong Kong stocks has increased significantly, risk appetite has improved, and the short-selling ratio in the market has significantly declined, indicating a significant increase in investor sentiment in Hong Kong stocks. Even after this year's strong rally, the Hong Kong stock market still shows significant attractiveness in terms of valuation and profit matching compared to major global markets, whether in terms of equity risk premium or dynamic price-to-earnings ratio, it is still at appropriate levels or even historical lows. With the ongoing reversal of investor sentiment, Hong Kong stocks are expected to further benefit from continued valuation recovery. The period of declining profit growth in Hong Kong stocks has passed, and revenue pressure is expected to ease The profit contraction trend in the Hang Seng Index since 2022 turned positive in the first half of 2024, and the trend of revenue contraction also showed a clear reversal. Combined with the current market's expectations for future performance, the period of declining profit growth in Hong Kong stocks may have ended. Looking ahead to 2025, revenue growth expectations for the broad-based Hong Kong index in 2025 are expected to be higher than in 2024, which also suggests a relief in downward price pressure. Although profit growth expectations are slightly lower than this year, they still match the revenue growth expectations for 2025. In terms of industries, revenue growth expectations for three-fourths of primary industries in 2025 are better than in 2024, and the remaining industries maintain relatively high growth rates even though growth expectations have decreased, reflecting the cross-industry expectation of revenue recovery in Hong Kong stocks. Looking at secondary industries, industries in 2025 with revenue and profit expectations that match and with higher growth rates, and industries expected to accelerate growth compared to 2024, will focus on growth sectors, including support services (education), semiconductors, automobiles, medical devices and services, pharmaceuticals, and biotechnology. In addition, industrial engineering and other financial sectors also have high performance growth expectations. Market confidence steadily recovering, Hong Kong stocks expected to continue receiving Southbound capital Looking back at previous periods when Southbound capital flowed significantly and Hong Kong stock trading volume significantly increased, Southbound capital may be considered as "smart money." With the steady increase in the proportion of Southbound holdings in the Hong Kong stock market in recent years, the "pricing power" of Southbound capital is getting stronger, and changes in its allocation preferences are of higher significance. Since 2021, the market value of Mainland mutual funds' holdings in Hong Kong stocks relative to the market value of all Mainland mutual fund holdings and the proportion of Southbound capital's overall holdings have fallen by 2.5/8.4 percentage points to 7.0%/13.2%. As Southbound capital accelerates its inflow into the Hong Kong stock market in the future, the Mainland mutual funds' allocation may become more significant, especially in sectors such as consumer goods, information technology, and finance that have relatively higher decline in holdings since the end of 2021. Furthermore, since October 2024, during the accelerated inflow of Southbound capital into the Hong Kong stock market, growth sectors such as semiconductors, technology hardware, biotechnology, the internet, and new energy vehicles have generally been favored by Southbound capital. In addition, recent trends show that foreign investors, in addition to allocating to biotechnology and home appliances, have also shown a trend of increasing holdings in brokerage asset management, diversified financials, and building materials sectors. Additionally, the future movement of the Renminbi against the US dollar will mainly be driven by the relative changes in the fundamental economic conditions of the two countries, so there is no need to overly worry about foreign capital potentially continuing to flow out of the Hong Kong stock market due to trade disruptions. Outlook for the Hong Kong stock market in 2025: A turnaround is expected CITIC SEC believes that the Hong Kong stock market may experience a turnaround in 2025. Firstly, the current global dimension of Hong Kong stocks has a significant valuation advantage, and the income-side issues caused by price pressure in China are expected to gradually ease. Secondly, by October 2024, nearly HK$630 billion had flowed into the Southbound market, significantly increasing the influence of Chinese capital relative to foreign capital, especially in the mid and small-cap sectors. Lastly, against the backdrop of a series of domestic policies gradually taking effect, investors are expected to shift their focus. In terms of industry allocation, industries with strong cyclical trends and greater valuation flexibility in the first half of 2025 are expected to benefit relatively. As the domestic real estate cycle stabilizes and consumer spending recovers, industries related to these sectors are expected to see a recovery in performance. 1) Focus on non-bank financials with strong beta properties, especially insurance and the Hong Kong Stock Exchange. Assuming that the real estate cycle stabilizes under a series of domestic policies, we believe that the financial sector will benefit the most. The insurance industry is expected to benefit from valuation rebound, foreign capital inflows, and easing worries about "interest rate losses"; the Hong Kong Stock Exchange, which is scarce and has strong beta properties, will also benefit from the market's rebound. 2) The technology and consumer sectors are expected to see continued valuation recovery. With stable housing prices and the wealth effect stimulating residents' excess savings, we also expect strong performance from Hong Kong consumer goods and technology stocks with strong consumer attributes. Among them, internet companies that continuously reduce costs and increase efficiency while boosting shareholder returns, consumer goods traded for old ones, etThe new policy of consumer electronics, the relaxed overseas currency environment, and the strong growth of the education and training sector in the bio-technology industry all have the potential to continue to drive valuations higher.Risk factors: 1) Escalation of friction in technology, trade, and finance sectors between China and the United States; 2) Insufficient policy measures, implementation effects, and economic recovery in China; 3) Tightening of macro liquidity at home and abroad surpassing expectations; 4) Escalation of conflicts in Russia-Ukraine and Middle East regions; 5) Slower-than-expected stabilization in sales volume and prices of real estate in China.