Apologies for the late note as I am still out west for a conference and then clients meetings this week. It is amazing to see how Las Vegas hotels/casinos cater to Chinese’s New Year tourists. There are paper mache pigs in every hotel lobby.

Key Catalysts

• President’s Trump’s tweet delaying further tariffs that were to be implemented Friday and a March meeting with President Xi in Florida was well received from mainland investors.
• Brokerage firms had a strong day in Hong Kong and a very strong day in the mainland on President Xi’s comments on financial reforms and the importance of a strong financial industry.

The Hang Seng gained +0.5%/143 index points as volumes surged 54% day over day nearly 2X the 1 year average though on mixed breadth of 19 advancers and 30 decliners. Ping An jumped +5.12%/73 index points on news the insurance giant will spin off its fintech unit. China Construction Bank had a strong day +2.88%/67 index points while fellow banking giant ICBC +3.18%/44 index points. Within the MSCI China All Shares’ HK stocks, financials gained 3.79% while discretionary gained 1.28%. Defensive plays were laggards with staples were off -1.05% with utilities off -0.82%. TSouthbound Connect volumes were 4X the daily average though mainland investors were net sellers. This begs the question if mainland investors are pulling from HK to fund mainland stocks.

Shanghai & Shenzhen ripped +5.6% and +5.42% on volumes +67% day over day and nearly 3X the 1 year average on amazing breadth. There were only 14 declining stocks on both exchanges! That my friends is amazing! Within the MSCI China All Shares’ mainland stocks, financials gained +8.47% with over three dozen companies hitting the daily +10% limit. Tech, which has acted as a trade war barometer, gained 6.67% on news that Huawei will be rolling out a foldable smart phone that can be a tablet as well. Though a private company, the company’s continued push on 5G is having a big effect on the space as ZTE will rolling out a 5G phone as well. From a sector perspective it was all green. Northbound Connect volumes were 50% then on the MSCI Inclusion days last year and 3X the yearly average. Foreign investors were net sellers as brokers noted some profit taking from foreign investors.

Where do we go from here? I agree that Chinese markets have been on a tremendous tear as the Hang Seng is up 12% YTD and Shanghai Comp up 18%.

• MSCI will announce the 2019 China A inclusion factor by this Thursday. I believe the inclusion factor will be raised from 2018’s 5% to 15% in 2019. MSCI is adding 235 Chinese A Shares but is adding their market cap incrementally. I also believe they will add Chinext stocks in 2019 and mid caps in 2020. Why? To make the MSCI China A Inclusion Index to behave differently from the CSI 300. While there are a multitude of differences between the two indices, the 80% overlap has led to a similar return pattern. By adding Chinext stocks and mid caps, it would potentially make the indices different from one another.
• One broker noted that margin levels in the mainland are very very low from a historical perspective. They believe the rally might have legs as mainland investors come back into stocks having abandoned stocks in 2018.
• The annual Two Sessions policy meetings are coming in March. Brokers are beginning to comment on the potential for more tax cuts and stimulus announced during the events.
• Valuations for both HK and the mainland are still low from a relative and historical basis as the Hang Seng’s PE is under 11 and the Shanghai Comp under 14. While PE ratios have risen recently, if earnings have troughed, those ratios could decline. Remember that the S&P 500’s PE ratio skyrocketed when the market bottomed in March 2009. As earnings came back, the PE ratio fell.
• There is increasing anticipation that China’s stimulus trickle down effect is occurring. Markets are cheering a pick up in credit expansion as evidence that policies are working.
• I believe a global rebalance is taking place from developed markets to emerging markets. China, the largest country in EM, is a beneficiary of such flows.

Alibaba Pictures was off -0.69% despite Green Book winning the Best Picture Oscar.

CNY 6.68; CNY Bears RIP

Another day of rising yields.

• Yield on 1 Day Chinese Gov’t Bond 1.98%
• Yield on 10 Year Chinese Gov’t Bond 3.18%
• Yield on 10 Year China Development Bank Bond 3.88%

Commodities were surprisingly weaker on the Shanghai & Dalian commodity exchanges