Dim Sum Express. A-Share Market. Hong Kong Market. Equity Research. Mar 6, 2018

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1 Equity Research Dim Sum Express Key index performance Chg (%) EPS (%) P/E Market 1D 1M YTD 17E 18E 17E 18E HSI HSCEI MXCN SHSZ SHCOMP SZCOMP INDU SPX CCMP UKX NKY Hong Kong ADRs HK ticker Company Local (HK$) Daily (%) ADR (US$) Daily (%) 700 TENCENT ICBC CCB PETROCHINA HSBC PING AN CHINA MOBILE BANK OF CHINA SINOPEC CHINA LIFE Source: Bloomberg A-Share Market A-Share Market Color: A fluctuating market favorable for thematic plays Some of the fund managers we talk to believe that the A-share market will be range-bound in the near future which would be favorable for thematic plays. Some others believe that the recent correction has provided an opportunity for investors who have previously missed the rally in bluechip stocks to buy in. One of the fund managers pointed out that we are experiencing a rotation between different types of stocks rather than a definitive shift in the dominant market preference from large-cap to small-cap stocks, and that whether such a shift will actually take place depends on whether earnings expectations for large-cap stocks can materialize. Hong Kong Market Investment Strategy: NPC meeting highlights Judging from the magnitude of the market decline in Hong Kong yesterday and the uptick in the A- share market, overseas investors seem to be taking some of their chips off the table in light of the growing risk of a global trade war, while Chinese investors appear more positive on the NPC session. We believe the government s fiscal support is unlikely to be lower than last year despite the lowering of the budget deficit ratio, and we see a few highlights in the Government Work Report that may provide investment opportunities, including: 1) consumption upgrades; 2) the property sector (Greater Bay Area in particular); 3) the TMT sector. China Property: Developers reporting 2M18 contract sales growth Industry leader Vanke saw its contract sales revenue rise 20% YoY in 2M18, while GFA sold increased by 16% YoY. KWG Property s contract sales revenue was up 144% YoY, and Guangzhou R&F s rose 58% YoY with GFA sold up 51% YoY. Given government restrictions on primary property prices, we believe leading developers with fast asset turnover and a mass-residential focus should continue to gain more market share in We suggest focusing on industry leaders with cheap valuations and regional players with better-than-expected contract sales performance. WuXi Biologics (2269 HK, Under review): Positive profit alert for FY17 WuXi Biologics issued a positive profit alert yesterday, stating it expects to record around 75-80% net profit growth in Excluding unrealized foreign exchange losses, net profit growth is expected to be about % to Rmb m. This strong profit guidance is above consensus but in line with our forecasted adjusted net profit of Rmb326m. The company attributed the strong growth to successful implementation of its follow-the-molecule business strategy and efficiency enhancements in its business operations. Trading at 139x FY17 P/E on 68% growth, we have our rating and TP under review pending more details in the upcoming results announcement. Alex Fan, CFA, Research Analyst, SFC CE No. ADJ672 alexfan@gfgroup.com.hk Gao Yedong, Editor, SFC CE No. BAI002 yedonggao@gfgroup.com.hk

2 A-Share Market Color: A fluctuating market favorable for thematic plays * GFS sales talk to domestic institutional investors in China regularly to stay in touch with their hopes and fears, and to detect the slightest change in market sentiment. See below for what they are having on their minds. Voices of mutual fund managers Bullish view The current stock market correction has provided an opportunity for investors to build positions in quality blue-chip stocks, especially for those who have previously missed the share price rally in these stocks. For SME and ChiNext stocks, after the latest rapid rebound, they are likely to show diverging share price performances in the near future: quality growth stocks are likely to buck the trend and strengthen, while overvalued stocks are likely to continue to decline potentially to new low levels. Neutral view After the market stabilized, SME stocks which had previously suffered substantial share price drops started to rebound while large-cap stocks saw corrections. We do not see any well-defined, major investment themes in the market at present, creating a market environment more suitable for smallcap thematic plays. We will watch policy-driven themes, including regional development plans; however, such investment opportunities tend to be short-term-oriented trading opportunities. In addition, we will watch potential rebounds in cyclical stocks in the upcoming peak season after previous corrections, which are pending certain signals. Voices of private equity fund managers Neutral view #1 We believe the stock market will be dominated by fluctuations this year: the market will drop off when expectations are overly high but will be supported when expectations are low. We believe the ChiNext board will outperform the mainboard this year. We think the long-term market trend will remain unchanged, but we remain cautious in the short term. We highlight three investment strategies: 1) The absence of directional movements in a fluctuating market is typically favorable for the short-term share price performance of thematic plays. 2) Investors not good at capturing thematic opportunities can take positions in stocks that have gone through considerable corrections; we do not recommend chasing high in a fluctuating market. 3) When market expectations are low, investors should further accumulate shares in stocks likely to benefit from an economic recovery, and earn price spreads through repeatedly buying and selling until expectations stabilize and the economy picks up again. Neutral view #2 We think that whether or not the dominant market preference has shifted from large-cap to smallcap stocks depends on whether cyclical stocks earnings expectations can materialize. Some believe that there are no price bubbles for cyclical stocks and large-cap stocks at present. However, given the currently tight liquidity in China, asset bubbles are unlikely to be formed; we think that under such circumstances assets should be considered not cheap as long as their prices reach an average level, while asset bubbles can only be formed amid across-the-board liquidity easing. As such, while large-cap stocks are not particularly expensive, they are not cheap either. The fact that large-cap stocks tend to be very sensitive to changes in earnings performance makes actual earnings performance crucial. If earnings fail to meet expectations, stock prices would decline at a quicker pace; examples include Robam Appliances ( CH), Yanghe Brewery ( CH) and Oriental Yuhong Waterproof Technology ( CH). As this year s liquidity conditions are better than last year s, there has been a quick share price rotation between thematic plays. That said, this hardly qualifies as a shift in the dominant market preference; it more of a rotation between different types of stocks driven by expectations amid relatively loose liquidity. Voice of GF sales In the short term, the market is still going through a rebound after substantial corrections previously seen. Some oversold small-cap growth stocks have started to see re-rating. Currently investors are more interested in quality companies with genuine growth potential and a noticeable competitive Page 2

3 edge which have previously been oversold. Market movement this year will still depend on the economic outlook. Looking ahead, the comparative advantages of quality companies will likely strengthen further, and their business stability will continue to increase, while the risk of share price corrections brought by deleveraging is relatively small. Meanwhile, investors will also lower their required risk premiums for these quality companies accordingly. As earnings visibility remains the most important factor considered by investors at the moment, we suggest increasing positions in leading blue chips with visible earnings, as well as growth stocks and stocks with earnings turnaround which offer a margin of safety. In the near term, the 2017 earnings season, overseas market performance, policy expectations and the ongoing two sessions will continue to influence market movements. (This piece has been produced based on client feedback put together by the GFS A-share sales team, and does not represent the house view of our research team.) Investment Strategy: NPC meeting highlights Judging from the magnitude of the market decline in Hong Kong yesterday and the uptick in the A- share market, overseas investors seem to be taking some of their chips off the table in light of the growing risk of a global trade war, while Chinese investors appear more positive on the NPC session. We believe the government s fiscal support is unlikely to be lower than last year despite the lowering of the budget deficit ratio, and we see a few highlights in the Government Work Report (the Report) that may provide investment opportunities, including: 1) consumption upgrades; 2) the property sector, especially stocks with substantial exposure in the Greater Bay Area, and; 3) the TMT sector. Foreign investors are risk-off While the Hong Kong market was sharply lower yesterday, the A- share market was up slightly. Looking at the stock connect schemes, there was net selling of Rmb1,376m A-shares via northbound trading but net buying of HK$341m Hong Kong shares in southbound trading. Overseas investors appeared to be exiting both the Hong Kong and A-share markets yesterday due to risk aversion given the rising risk of a trade war and limited surprises from the Report at the NPC, while Chinese investors remain positive in both markets. Opportunities from consumption upgrades The Report outlines various ways of increasing household income such as personal tax reform, raising the personal taxable income threshold, and reducing Rmb800bn in corporate and personal tax. We believe these measures will benefit the consumer sector, especially companies that provide quality consumer products and services that should see increased demand given the ongoing consumption upgrade. Property policies stabilised; Greater Bay Area in focus The Report stipulates prudent property tax legislation, indicating no urgency for implementation in the near term, and continued differentiated control policies in different regions while supporting first home ownership. In particular, we believe property stocks with extensive land banks in the Guangdong-Hong Kong-Macau Greater Bay Area will benefit from property value appreciation given the government s plan to formulate a development plan for the region. TMT sector to receive more government support The Report downplayed traditional industries in terms of supply-side reform and emphasised the promotion of industries with greater innovation and technology, facilitating opportunities in terms of getting equity financing. We believe the government s embrace of new technology bodes well for TMT stocks where strong funding is critical for their development. Fiscal support not as tight as it appears One of the key focuses in the Report this year is the lowering of the budget deficit ratio to 2.6%, from 3% last year, which gives the impression that the government is sacrificing growth to ensure financial risk control. However, given that there is a net increase of Rmb550bn in debt issuance on behalf of local governments in the plan this year compared with last year, and possibly some special purpose debts, the actual budget deficit may be larger while fiscal support is unlikely to be weak, which should help to alleviate investor concerns. (Alex Fan, CFA, Research Analyst, SFC CE No. ADJ672, alexfan@gfgroup.com.hk ) Page 3

4 China Property: Developers reporting 2M18 contract sales growth What s new? Industry leader Vanke (2202 HK, Underperform): contract sales revenue rose 20% YoY to Rmb103.6bn in 2M18; GFA sold increased by 16% YoY to 6.9m sqm. KWG Property (1813 HK, Hold): contract sales revenue rose 144% YoY to Rmb9.7bn, while GFA sold was 0.5m sqm. Guangzhou R&F (2777 HK, Hold): contract sales revenue rose 58% YoY to Rmb12.4bn; GFA sold was up 51% YoY to 0.9m sqm. March contract sales to be a share price catalyst Most China developers will release their 2017 results and 2018 contract sales targets in March. Given government restrictions on primary property prices, we believe leading developers with fast asset turnover and a mass-residential focus should continue to gain more market share in In our view, industry leaders core competitiveness lies in their nation-wide brand names, fast asset turnover, diversified financing channels, lower operating expenses and consistent land bank acquisition.. Focus on industry leaders with cheap valuations and regional players with better-thanexpected contract sales performance With accelerating industry consolidation and market share concentration in China s property market, most regional developers are expanding their sales to keep their competitive position in the sector. We are bullish on COLI (688 HK, Buy) given its relatively cheap valuation vs comparable industry leaders such as Vanke or Country Garden (2007 HK, Hold). Among regional players, we prefer developers set to post positive earnings and contract sales surprises in 2018, such as Yuexiu Property (123 HK, Buy). (Dennis Yao, Research Analyst, SFC CE No. ALK994, dennisyao@gfgroup.com.hk ) WuXi Biologics (2269 HK, Under review): Positive profit alert for FY17 What s new? WuXi Biologics issued a positive profit alert yesterday, stating it expects to record around 75-80% net profit growth in Excluding unrealized foreign exchange losses, net profit growth is expected to be about % to Rmb m. This strong profit guidance is above consensus but in line with our forecasted adjusted net profit of Rmb326m. Trading at 139x FY17 P/E on 68% growth, we have our rating and TP under review pending more details in the upcoming results announcement. Positive profit alert The company attributed the strong growth to: 1) successful implementation of its follow-the-molecule business strategy, which meets customers increasing demand as their biologics advance through the development process to commercial manufacturing. Average revenue per project typically increases from US$2m in the early drug discovery phase to US$75m in commercial manufacturing; 2) efficiency enhancements in its business operations, which enabled the company to achieve greater economies of scale. These two reasons for the profit increase were expected by the market. TP and rating under review WuXi s share price has gained 34% year-to-date and is currently trading at an industry high valuation (139x FY17 P/E vs a peer average of 73x). We believe the focus in its earnings results will be its upbeat project conversion and revenue upside through milestone and royalty fees. Near-term catalysts includes the first FDA approval for its commercial manufacturing project in April. (Natalie Chiu, Research Analyst, SFC CE No. AVH029, nataliechiu@gfgroup.com.hk ) Page 4

5 Rating Definitions Benchmark: Hong Kong Hang Seng Index Time horizon: 12 months Company ratings Buy Stock expected to outperform benchmark by more than 15% Accumulate Stock expected to outperform benchmark by more than 5% but not more than 15% Hold Expected stock relative performance ranges between -5% and 5% Underperform Stock expected to underperform benchmark by more than 5% Sector ratings Positive Sector expected to outperform benchmark by more than 10% Neutral Expected sector relative performance ranges between -10% and 10% Cautious Sector expected to underperform benchmark by more than 10% Analyst Certification The research analyst(s) primarily responsible for the content of this research report, in whole or in part, certifies that with respect to the company or relevant securities that the analyst(s) covered in this report: (1) all of the views expressed accurately reflect his or her personal views on the company or relevant securities mentioned herein; and (2) no part of his or her remuneration was, is, or will be, directly or indirectly, in connection with his or her specific recommendations or views expressed in this research report. 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