China's Stock Rally May Have Legs, Says Goldman Sachs

Chinese stocks are showing signs of life again after a volatile year, and this time, the rally may have staying power, according to a note published by Goldman Sachs.

Despite recent gains fading after a September surge, the bank suggests that several factors point to further upside potential in Chinese equities. Key among them is the Chinese government's apparent commitment to supporting the stock market, coupled with an improving earnings outlook.

"History suggests this rally may have more legs, especially if policy pledges and earnings come through," says Kinger Lau, chief China equity strategist at Goldman Sachs.

Many investors remain wary, having witnessed previous short-lived recoveries in Chinese stocks that lacked sustained policy support. However, Lau notes that this time feels different. Since late September, the Chinese government has unleashed a wave of over 10 significant policy measures and announcements, spanning monetary and fiscal policy, real estate, and equity markets.

This proactive approach stands in contrast to the perceived "policy fatigue" that characterized the past year, where policy promises often fell short of expectations. Lau emphasizes the magnitude and breadth of the recent easing package, calling it "arguably the most significant in recent history."

The bank estimates that every 1 trillion yuan of fiscal stimulus directed towards the real economy could boost China's GDP growth by 40 basis points, translating into a 2 percentage point increase in earnings growth for major Chinese stock indices. Coupled with a potential pickup in consumption demand, the bank's analysts have raised their price-to-earnings targets for Chinese stocks, forecasting a potential 27% upside for the MSCI China index and a 15% gain for the CSI300 index over the next 12 months.

Even if the policy measures fail to fully materialize, Lau argues that Chinese stocks, representing the world's second-largest equity market, still warrant investor attention. He points out that Chinese equities continue to trade at a discount to other benchmarks, reflecting lingering investor hesitancy. However, Lau believes that the recent signals of strong policy support should help alleviate fears of a severe economic downturn or policy missteps, ultimately boosting investor confidence in Chinese stocks.