3 Chinese Tech Stocks To Allay Market Correction Fears

After an undeterred bull run for 928 days, China's benchmark Shanghai Composite index had a bitter taste of reality when it plunged 6.4% to close at 4,478.36 on Friday. The index fell 13.3% over the week, triggering fears of an imminent market correction following the longest bull run in history since local bourses were opened for trading in 1990.

The smaller Shenzhen Composite Index, which mostly tracks technology stocks on China’s second exchange, also sank 5.9% to close at 2,742.18 on Friday – down 12.7% from its record close of 3,140.66 in the previous week.

With more than $10.3 trillion floating in China's stock market (according to the World Federation of Exchanges) before the sudden crash, investors across the globe are bound to get rattled. Before we cherry pick a handful of Chinese technology stocks that are likely to beat the blues, let us dig a little deep to take stock of the situation.

The Chinese Ascent

Despite meager GDP growth (by Chinese standards) of 7% in the first three months of the year, when the average economic expansion of the country was around 10% a year over the past three decades, the stock market continued to move north. The benchmark Shanghai Composite has climbed up nearly 60% this year till the end of May, while the Shenzhen Composite had a steep ascent of 120%.

This compared to paltry 2.4% growth by the benchmark S&P 500 index during the same time period, making the Chinese equity sector one of the best-performing markets in the world.

As more Chinese investors began trading in stock markets, total market cap of the Shanghai Stock Exchange snowballed into $5.9 trillion by the end of May, while that of the Shenzhen Stock Exchange swelled to $4.4 trillion, according to the World Federation of Exchanges. These propelled the stock exchanges to the third and fifth place, respectively, on the list of top global stock exchanges by market cap.

Is It a Bubble?

The exuberance in Chinese stocks seems to arise not from healthy market fundamentals, but from government stimulus programs and unique investor frenzy. While the government has stepped up plans to increase liquidity by lowering interest rates and cash reserve ratio of banks, investors have responded by parking their wealth in the equity market.

According to a survey by State Street Corporation published earlier this year, about 81% of retail investors in China trade in the equity market at least once a month compared to 53% in the U.S. This innate desire of investing more than their Western counterparts might be attributable to the cultural difference and the socio-economic upbringing.

As the real estate market began deflating, more investors preferred the stock market to park their excess savings. The Chinese even took recourse to margin buying – a practice in which stocks were bought on borrowed money. According to Oxford Economics, margin accounts increased 86% year over year in 2014, with 700,000 new accounts opened in December alone.

Bulk of these accounts was opened by unsophisticated retail investors who seem to follow the broader market. So there remains a high probability that a large chunk of stock market wealth might get eroded by the whims of these investors, leading to high market volatility and a probable stock market crash.

A similar case was also witnessed in mid-June, when investors abruptly pulled out nearly $7 billion from Chinese funds and ETFs. The withdrawal was largely attributable to MSCI’s decision to exclude shares traded in Shanghai and Shenzhen from its widely-tracked global benchmarks due to concerns over China's market restrictions.

3 Chinese Stocks Likely to Stand Tall

Irrespective of the fact that a market correction looks imminent as the stock market bubble appears to be on the brink of explosion, there remains a handful of priceless stocks that are likely to stand as tall as the archaic Great Wall of China. Investors should be better off with these Chinese stocks that are backed by a favorable Zacks Rank and impressive long-term earnings growth rate.

Baidu Inc (NASDAQ:BIDU): Headquartered in Beijing, Baidu offers a Chinese language search platform. In addition to serving individual Internet search users, Baidu provides an effective platform for businesses to reach potential customers through online marketing services to its customers directly and through other distribution networks.

Earnings estimates for this Zacks Rank #3 (Hold) stock for the current year have been moving up in the last 7 days. With a forward PE of 29.2x, the long-term earnings expectation of the stock is also pegged at a relatively high of 30.6% compared with an industry average of 18.5%.

China Mobile Ltd (NYSE:CHL): Incorporated in 1997 and based in Central Hong Kong, this Zacks Rank #3 (Hold) stock offers mobile telecommunications and related services in Mainland China and Hong Kong. In addition, the company provides wireless data traffic services and applications and information services, including mobile music, mobile paper, mobile reading, mobile video and mobile market.

The stock is currently trading at a forward PE of 13.9x. Earnings estimates for the current year have been moving up, implying bullish sentiments for the long-term growth of the company.

Sohucom Inc (NASDAQ:SOHU): Founded in 1996 and headquartered in Beijing, Sohu offers online media, search, and game services across diversified digital media. This leading Internet portal of the country provides Chinese language Web navigational and search capabilities, twelve main content channels, Web-based communications and community services, and a platform for e-commerce services.

The long-term earnings expectation for this Zacks Rank #3 (Hold) stock is currently pegged at 22.0%.

Moving Forward

Shane Oliver, head of Investment Strategy and Chief Economist at AMP Capital, observed, "After rising 140% over 12 months and around 50% year to date such volatility is to be expected as it has risen a bit too far too fast." Whether or not a market correction indeed occurs, investors are likely to benefit from these Chinese technology stocks that are likely to outperform the broader equity market.

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