The GDP growth in the first half of the year looks not bad, but corporate earnings and consumer confidence are very weak. GDP growth of 2024Q1 was 5.3%, and it is likely to achieve the same for 2024H1. However, the net profits of listed companies (excluding financials, petroleum and petrochemical sectors) have experienced negative growth for five consecutive quarters which was rarely seen in the past. Although, company revenue maintained a slim positive growth in Q1 (+0.2%), but the growth rate has been declining for 12 consecutive quarters. The half yearly financial reporting season has come, yet there is no reason to be optimistic. The situation is probably even tougher for non-listed companies in China. Corporate layoffs and salary cuts have recently become a mainstream topic around us.

Business performances definitely affect consumer confidence. The consumer confidence index has sharply fallen below 90 during the pandemic lockdown in 2022, (before lockdown it was near the 5-year average of 120), which only rebounded slightly in 2023Q1, and it fell again to 86.4 in May 2024, sliding to the level during the 2022 pandemic lockdown again. The increased uncertainty of future income and the decline in income expectation have impacted on current household spending. The recovery of consumer confidence become hard to reach in near term. The decline in consumer confidence will in turn affect the revenue and profit of businesses, forming a negative feedback loop.

Declining corporate earnings and consumer confidence also have influence on stock market performance. Major index looked flat in 2024H1. However, most share prices fell and made big loss. The CSI 300 index edged up 0.89% in 2024H1, on the contrary, more than 4,500 stocks fell, which accounts for 85% of the total number of stocks. Individual stock prices fell much more than index, with median change of negative 23%. From the perspective of investment style, in the battle for existing funds, high dividend yields have been the only winners, reflecting investors’ rising risk aversions.

The valuation gap between large and small caps, growth and value stocks are at an all-time low. The CSI 300 Index reflecting large-cap and value stocks, which is favored by large institutions, has a PE ratio of 11.8 and it is at the historical 31 percentile since 2005 (current valuation is close to 2005 level when was at market bottom). Meanwhile, the PE of the ChiNext index reflecting growth stock valuation is 25.9, which is at the historical 1 percentile. The valuation gap between the ChiNext Index and the CSI 300 Index, is at an all-time low, and it continues to hit new lows, demonstrating an extreme divergence of the market styles. The CSI 2000 Index representing small-cap stocks, is at a PE ratio of 32.1, which is at the historical 7 percentile. The current extreme style preference between large/small caps, and growth/value stocks would trigger mean revision according to our past experience. However, in the context of this year's macroeconomic and regulatory environment, past experience may not be applicable, and it is very difficult to speculate the timing of mean revision.

The duration and magnitude of current economic difficulties may be much longer than previous experience, and the possibility of extreme movements in the stock market increases. Our top priority is to survive in this market cycle. Declining in both corporate earnings and consumer confidence are in a negative feedback loop. Without effective government stimulus, it may take long time for the economy to get out of the predicament on its own. In an environment of low investment sentiment and stricter regulations, the probability of extreme movements in the stock market increases. This is exemplified by the market wide drops of the first half of this year, when most stocks already fell significantly after three consecutive years of bear market. Investments should be more conservative. In the past, we could buy at the market bottom. Now we should keep vigilant for further downside movements to avoid further loss. Facing a market that have gone far exceeding previous experience, it is necessary to modify expectation and increase risk budgets to be able to survive.

On the other hand, it is also important to see the resilience of China's economy and do not give up investment. The problems encountered by Japan in the 1990s such as the bursting of the real estate bubble, the aging population, the external suppression by super power, and the relocation of industries seem to be somewhat similar to the current Chinese economy. Some people worry about whether China will follow the “lost two decades” of Japan. However, we believe there are a few key differences. Unlike Japan's home appliances, shipbuilding, semiconductors and other industries that were gradually replaced by competitors from other countries, the competitiveness of China's manufacturing industry is still improving and upgrading to the high-end products. China's labor costs are only about one-eighth of those of the United States, which is completely different from when Japan was close to the level of the United States at that time. China's real estate bubble and urbanization rate are far from the same level of Japan's in 1990s. Although it is at difficult time, there is still room for China's development. The resilience of Chinese economy will respond to stronger stimulus policies on investment and consumption.