Key News

• Asian equities rebounded overnight except for Malaysia and Indonesia. Hong Kong demonstrations continue to weigh on the equity market. China's strategy appears to be to let Hong Kong deal with the situation alone.
• Today is MSCI’s quarterly re-balance, which led to a massive jump in Northbound Connect volumes. 260 Chinese A shares saw their inclusion factor increase to 15% from March’s 10% inclusion.
• The National Bureau of Statistics reported that Industrial Profits rebounded by 2.6% in July after June’s -3.1%. The nattering nabobs of negativity are nothing as the index is volatile, but up versus a low base. Both are true but it does highlight that the doom and gloom narrative is not 100% accurate. Supporting this was the release of Bloomberg’s Li Keqiang Index, which gained 6.11% versus June’s 6.85%. The index looks at bank loans, electricity production and rail freight volumes.

MSCI Inclusion

MSCI is adding 260 A-share stocks to their indices but is adding their market cap incrementally (5% in 2018, 5% in March 2019, 5% today and 5% in November). By the end of this year the Chinese A shares will make up more than 4% of MSCI EM. At full inclusion, they will be 17% on their own. This means that A-shares will make up a larger portion of the index than South Korea, which is currently the second most-represented country in the index. Foreign investors purchased net $1.57 billion of Chinese A shares today (buys minus sells). Total buy volume was $3.99 billion which is the largest day since Shanghai Connect day ever. For a glimpse of how inclusion in MSCI’s indices affects equity performance, watch Roku (ROKU US) at 3:59pm today as it is being added to MSCI indices at the market’s close. I can’t predict if it will go up or down, but volumes will be through the roof.

H-Share Update

The Hang Seng traded flat to close -0.06%/-16 index points to close at 25,664 on volume just above the 1 year average for the second day in a row. Breadth was mixed with 24 advancers and 21 decliners as index heavyweights weighed on the index as HK Exchange -2.27%/-19.8 index points as IPOs are unlikely to occur in the current market environment, China Mobile -1.51%/-18.3 index points and textile manufacturer Shenzhou International Group -4.37%/-10.4 index points after a sell side downgrade. The HK stocks within the MSCI China All Shares gained +0.15% led by healthcare +1.7%, industrials 1.69% and real estate rebound +0.94%. Healthcare is increasingly seeing strong earnings and safe haven status due to a lack of non-China revenues. Financials lagged -0.28% as China Merchants Bank was off. CMB was among three Chinese banks found to be in contempt of court after failing to act on US subpoenas. The banks are accused of doing business with North Korea by the US and face the possibility of being banned in the US. While their US operations and revenues are tiny, losing the ability to transact in US dollars would be problematic. Southbound Connect volumes were moderately high as mainland investors were 2 to 1 buyers with CCB, the volume leader, seeing massive buying once again.

A-Share Update

Shanghai & Shenzhen grinded higher +1.36% and +1.87% as volumes increased 21% day over day and well above the 1 year average. Breadth was very strong with 2,207 advancers and only 434 decliners. While the MSCI inclusion is focused on mega cap/large caps, small and mid caps outperformed. The mainland stocks within the MSCI China All Shares gained 1.08% led higher by discretionary +2.31%, tech +1.64%, staples +1.61%, communications +1.46% utilities +1.26% and industrials +1.04%. Real estate lagged +0.15%. As I mentioned previously, Northbound Connect volumes surged. Interesting to note that Kweichow Moutai had slightly more sellers than buyers despite being the #1 MSCI inclusion stock.

BILI/MOMO Earnings

Live streaming company Bilibili (BILI US) reported strong revenue growth and pick up in users though costs spiked leading to a small uptick in gross profit and a net loss.

• Revenue +50% to RMB 1.537.7B ($224mm) from 1.026B versus estimate 1.49B
• Average Monthly Users +30% YoY to 110mm; daily users +41% to 33mm
• Gross profit RMB 251mm from 250mm YoY
• Adjusted EPS loss RMB (0.78) versus estimate (0.85); Year earlier loss was RMB (0.07)
• Q3 Revenue Forecast RMB 1.74B  to 1.77B versus estimate 1.73B

This morning Momo (MOMO US), the Twitter of China, reported eerily similar results to BILI as revenue growth was strong though cost of revenues increased, which led to muted net income.

• Revenue +32% to RMB 4.152B ($604mm) from RMB 3.152B
• Total Cost and Expenses increased to RMB 3.386B from RMB 2.356B
• Net Income RMB 731mm versus 748mm
• Adjusted EPS RMB 0.82 versus estimate 0.73
• Q3 forecast RMB 4.25B to 4.35B

Last Night’s Stats

• CNY 7.16 versus 7.14; eases 13bps
• Yield on 1 Day Chinese Gov’t Bond 2.199% versus 2.16%
• Yield on 10 Year Chinese Gov’t Bond 3.0599% versus 3.05%
• Yield on 10 Year China Development Bank Bond 3.55% versus 3.54%
• Commodities were lower on the Shanghai & Dalian Exchanges with Dr. Copper +0.56%.