Position for a cyclical recovery

Deutsche Bank Markets Research Asia China Strategy China Strategy Spotlight Date 30 October 2015 Strategy Update Position for a cyclical recovery ________________________________________________________________________________________________________________ Deutsche Bank AG/Hong Kong Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 124/04/2015. Yuliang Chang, CFA Strategist (+852) 2203 6195 yuliang.chang@db.com Joseph Huo Strategist (+852) 2203 6251 joseph.huo@db.com Property GFA new starts rebounded in Sept 7%-16%25 months24m12m-10 0 10 20 30 -50%-25%0%25%50%75%100%125%Dec-06Apr-07Aug-07Dec-07Apr-08Aug-08Dec-08Apr-09Aug-09Dec-09Apr-10Aug-10Dec-10Apr-11Aug-11Dec-11Apr-12Aug-12Dec-12Apr-13Aug-13Dec-13Apr-14Aug-14Dec-14Apr-15Aug-15monthsytd yoyNationwide GFA soldNationwide GFA new start (lag 6m)29-city 3m MA inventory months (reversed scale, RHS)GFA new startGFA sold Source: CEIC, SouFun, Deutsche Bank Strategy Research Actual credit creation accelerated in 3Q15 Jun-1511.6%12.0%May-1512.0%13.9%10%13%16%19%22%25%Jan-13Mar-13May-13Jul-13Sep-13Nov-13Jan-14Mar-14May-14Jul-14Sep-14Nov-14Jan-15Mar-15May-15Jul-15Sep-15Nov-15balance growth yoyHeadline total social financingTSF adjusted for local gov't debt swap Source: CEIC, Wind, Deutsche Bank Strategy Research H-share fund positioning vs. DB China strategy DB preferenceMXCNSectorCurrent investor wgtDB advised wgtDiffOWFinancials36%44%8.2%OWIndustrials6%11%5.0%OWUtilities5%7%1.3%OWInfo. Tech.16%17%1.1%UWTelecom5%6%1.0%EWMaterials2%2%-0.5%EWCons. Stap.5%4%-0.7%UWEnergy6%3%-3.0%EWCons. Disc.8%5%-3.5%EWHealth Care7%2%-4.3% Source: Bloomberg Finance LP, Deutsche Bank Strategy Research This is the first issue of China Strategy Spotlight, a monthly series to update investors on our market views as well as on A- and H-share performance, valuations, fundamentals, liquidity and sentiment. What we are communicating to investors: a cyclical recovery and 3Q15 results We have been advocating repeatedly in the past few months our view of a fundamental improvement ahead in China, based on several leading indicators: 1) its increasingly expansionary fiscal policy stance; 2) solid property sales and a visible pick-up in new construction starts; and 3) accelerating broad credit creation amid a credit demand pick-up. We maintain our positive outlook and reiterate an end-2015 HSCEI target of 13,000. We continue to suggest investors add quality beta and top-pick property (COLI), infrastructure (CRCC), cement (BBMG), insurance (Ping An) and TMT (BIDU). 72% of A-share market cap have reported 3Q15 results. For those that have reported, earnings growth decelerated to -1.3% in 9M15 from 5.3% in 1H15, mainly dragged by the upstream and mid-stream sectors. We also highlight A- and H-share investor allocation (page 27~29) and suggest investors watch for 1) more details of China’s 13th five-year plan; 2) MSCI ADR and IMF SDR inclusion decisions in November; and 3) ECB/BoJ monetary stance (page 5-7). Performance and valuations: H-shares at low P/E despite the rally (page 12~21) H-shares rallied 9% in October, outperforming EM, AeJ but slightly underperforming the A-share CSI300 (+10%). Environmental, brokers and energy led with a more than 15% gain, while defensives generally lagged. On valuation, MSCI China and non-financials trade at respective 9.3x and 12.9x 12m fwd P/E, or 20% and -3% discount to historical average. Utilities, brokers, insurance, discretionary and banks are near the bottom of their historical valuation range. CSI300/non-fin are at 12.3x/17.6x 12m fwd P/E. Macro and earnings: key indicators are up; earnings saw cut (page 22~29) Key leading indicators improved: 1) credit growth accelerated with adjusted TSF balance, pacing up at 13.9%; new loan mix improved as corp. med/long-term loans took a higher portion; and 2) property GFA new starts rebounded 15.3% in September. On earnings, MSCI China 15E EPS was cut 0.3% last month, with most cuts seen in IT (-4.6%), materials (-3.6%) and energy (-1.7%). Defensives and select financials saw minor upgrades. Our top-down earnings forecast for 2015E is a touch higher than consensus. Liquidity and sentiment: both have clearly improved (page 30~33) Investor sentiment has clearly improved in both A- and H-share markets: 1) global capital flowed back to HK and HKMA has been injecting liquidity; 2) HK short-sell activity subsided notably; 3) offshor