By Kay Li
Investing.com - It is not an overstatement to say that 2021 was a "lost year" for the Hong Kong stock market, especially for the technology and internet sector, which dragged the Hang Seng Index down 14.1% and the Hang Seng Technology Index down 34.8%, among the worst performing global indices.
Looking back at the trend of Hong Kong stocks in the past year, there has been a lot of pressure from various aspects.
First of all, the lack of foreign capital inflows has been a problem for the market's incremental capital. At the height of the pandemic, the world's central banks turned on their money printing machines, with the massive amount of money driving the global stock market upward.
Unlike European and U.S. stock markets, however, Hong Kong stocks do not have access to increased capital through monetary policy and quantitative easing that European and U.S. stock markets have.
On the contrary, Hong Kong's market relies heavily on the inflow of foreign capital, which was lukewarm in 2021. Although there was a great deal of southbound capital from China to support the market at the beginning of the year, significant outflows came in June and July: the net outflow of capital to Hong Kong to China was as high as HK$63.5 billion in July, the largest outflow in a single month since the establishment of the interoperability mechanism.
At the same time, foreign capital also did not stay idle, with outflows reaching HK$20.2 billion in a single month in July. And last month, Bloomberg data showed that foreign capital continued to flow out of the Hong Kong stock market, with a net outflow of over HK$35 billion in a single month, and a small outflow of HK$2.8 billion in funds to China, both of which mainly reflected selling Internet giants in Hong Kong stocks.
On the other hand, China's education policy, national data security and anti-trust mechanism and other new regulations also put pressure on the market. For example, on March 12, 2021, the official website of the State Administration of Market Supervision (SAMS) issued a news release against 12 Chinese Internet technology companies, including Tencent Holdings Ltd ADR (OTC:TCEHY) (HK:0700), Baidu Inc (HK:9888) (NASDAQ:BIDU), Meituan (HK:3690), Suning Commerce Group Co Ltd (SZ:002024), Alibaba Group Holding Ltd (HK:9988) (NYSE:BABA), JD Com (HK:9618) (NASDAQ:JD), Bytedance, and Didi Global (NYSE:DIDI) for their monopolistic practices, imposing maximum penalties on related parties controlled by them.
Shortly thereafter, in July 2021, the "Opinions on Further Reducing the Burden of Assignment and Off-Campus Training for Students in Compulsory Education" (the "Double Reduction" policy) was published, followed by a sharp drop in education stocks on the Hong Kong stock market: New Oriental Education & Technology (NYSE:EDU) fell 54.2%, TAL Education Group (NYSE:TAL) fell 70.8%, and Gaotu Techedu Inc DRC (NYSE:GOTU) fell 63.3%, and several other online education and training businesses plunged in response. This led the Hang Seng Technology Index to a new record low.
Finally, the plunge of property and financial stocks in the Hong Kong stock market can also be considered as one of the direct culprits of the fall of Hong Kong stocks.
Valuation bottoming out: Will Hong Kong stocks rebound or remain under pressure?
There is no denying that the Hong Kong stock market will still face pressure next year. On the one hand, China's education policy, national data security and new regulations such as the anti-trust mechanism will weigh on the market; on the other hand, there are still potential risks in global trade relations.
The Federal Reserve's recent tightening of its stance and policy has also led to a reduction in the flow of incremental capital into Hong Kong stocks. At the December FOMC meeting, Fed Chairman Jerome Powell retired the term “transitory inflation”, acknowledging that inflation may be more persistent. The market generally expects the Fed to speed up the tapering of bond purchases in response to inflationary pressures. Current interest rate futures show a 59.1% chance of a rate hike in May next year, and the Fed’s dot plot shows three rate hikes in 2022.
So, what impact will this have on Hong Kong stocks? With the Fed tightening monetary policy, overseas funds are likely to return to the U.S. stock market and U.S. dollar assets, and investors will choose to reduce their positions in risky assets, which will further reduce the inflow of incremental funds into Hong Kong stocks in the future.
It is important to note though that the linkage between Hong Kong and U.S. stocks has been significantly weakened since the beginning of the interoperability in 2014, when the influence of the surging capital on Hong Kong stocks gradually increased. In February 2020, under the disruption of the pandemic, Hong Kong stocks and U.S. stocks showed a complete divergence, with U.S. stocks plummeting and then starting a strong rebound, while Hong Kong stocks continued oscillating all the way down. This also pressured Hong Kong stocks to a certain extent, with limited willingness to allocate overseas capital inflows to Hong Kong stocks.
Secondly, the market is now predicting that next year will be the year when Chinese stocks will list in Hong Kong en masse, which may also bring about a siphoning effect and put pressure on the liquidity of the Hong Kong stock market.
However, we also note that by the end of the year, many investment banking institutions argue that the Hong Kong stock market is now significantly undervalued for 2022, and that the oversold Hong Kong stocks have a good chance for a rebound.
Looking at an Investing.com technical chart, we see the Hang Seng’s RSI, BOLL and MACD indeed show signs of bottoming. After several months of volatility, the downward momentum of Hong Kong stocks has slowed. Zhang Yidong, Global Chief Strategist and General Manager of Overseas Research Center of Singyes Securities, believes that Hong Kong stocks have reached support at the bottom and a technical bull market is expected to emerge next year, with gains of up to 15-20% from the end of 2021 to the high point in 2022.
On the other hand, the Hang Seng Index is right at the 168-month SMA, and breaking below that could lead to a new bottom.
Other positives include valuation and regulation. Everbright Securities believes that the valuation of Hong Kong stocks has come to a historic low, as from a price to book valuation, both the Hang Seng Index and the Hang Seng Composite Index are about two standard deviations from the average, a historic low.
From the policy perspective, the market now generally believes that China's policy regulation has stabilized, providing a solid foundation for the Hong Kong stock market. The view of CICC is that as China's policy tilts in the direction of easing, the Hong Kong stock market will turn positive, and against this backdrop, Hong Kong stocks are in a position to outperform overseas Chinese stocks because of their relatively advantageous valuation levels and loose liquidity.
What are the standout sectors for Hong Kong Stocks in 2022?
According to CICC, as of the end of the third quarter, in terms of absolute size, public funds had their biggest positions in the media and entertainment, pharmaceuticals and biotechnology, automotive and parts, consumer durables and apparel, general finance, technology hardware and equipment and retail sectors in the Hong Kong stock market. The institution suggested that investors should focus on "stable growth" in the near future and opt for quality growth targets in the long term. These include some financial, real estate and midstream and downstream industrial chains, midstream and downstream consumer sectors that benefit from upstream price reductions and policy support, as well as quality growth stocks that are under greater selling pressure in the early stages.
In addition, Guoxin Hong Kong pointed out that the Internet era has entered a period of decline, and the market is moving to growth investment themes like zero-carbon environmental beneficiaries, the meta-verse, and electric vehicles especially, the latter of which are at the equivalent of 2009 for smartphones, when those just began to gain mainstream acceptance. The next 5-10 years is expected to see explosive growth for electric vehicles, so it is a good time to invest in both domestic and foreign electric vehicle makers and related industry participants.
UBS is bullish on Hong Kong's local bank stocks and retail stocks. The institution believes that major central banks in some developed economies may start to cut bond purchases while inflation is peaking, a situation that could boost real interest rates in these economies, and the performance of Hong Kong's local bank stocks is often positively correlated with real interest rate performance, with a dynamic price-to-earnings ratio of about 1.1x and a dividend yield of about 5%. The dividend yield for Hong Kong bank stocks is about 5%. At the same time, Hong Kong local retail stocks may benefit from some favorable policy factors.