18 November 2018
An increase in the military budget will benefit listed firms that supply materials to military enterprises. Photo:
An increase in the military budget will benefit listed firms that supply materials to military enterprises. Photo:

Military equipment stocks stand to gain from policy support

Major investors have exploited well the market’s ups and downs by switching between different individuals stocks and sectors. The strategy works quite well in the current market condition.

Equity and bond markets would be able to survive given the global monetary easing. These asset classes may go through some corrections but there is no major downside risk.

However, the fund flow may cause great fluctuations in various markets at different times due to ample liquidity in the market.

The US Federal Reserve is very likely to announce an interest hike of 0.25 percent within this year. There is a very limited chance to see a sharp rate hike, which could only happen if the inflation rate spikes. The market has taken the modest rate hike as a huge deal.

Currently, US stocks have already fetched historical high levels, and have factored in possible “black swan” events like geopolitical issues in the Middle East, which could sharply reduce oil production. If that is not the case, the market struggle may continue for a while. The market noise about the US rate hike may have very limited impact on the H-share market.

On the mainland, the market is focused on efforts to maintain stability and ward off deflationary risk. The Chinese government looks set to launch more monetary easing measures to bolster economic growth this year. Investors should take some profit after the recent interest rate cut.

The market has long expected the rate cut, and a number of investors have already done the preparatory work for an expected market rally. Therefore, the market has already priced in the move.

But the market rally has run out of steam after the rate cut, and the Hong Kong market has become the ATM for foreign investors during last week. Profit-taking has started with stocks that are sensitive to interest rates.

In this case, investors should reduce bets on heavyweight stocks from 40 percent to 30 percent, and take the profit to policy-driven stocks like environmental protection plays.

Mainland Chinese companies are in the earnings season, which might sway the performance of certain stocks and even whole sectors. Moreover, funds are facing the end-of-the-quarter factor. The H-share market may face short-term volatility in the next couple of weeks without too much visibility.

Therefore, investors should not jump into market too early. The A-share market has seen profit-taking last week, and some mainland insurance stocks have become more attractive. Their wealth management products will become more competitive after the rate cut, and government policy support for pension and retirement would help boost the sector. These plays have a dividend payout ratio of around 4 percent.

Meanwhile, mainland banks are in the cycle of interest rate and reserve requirement ratio cuts. These developments will be reflected in their earnings later this month. However, the management reshuffle in a number of financial institutions might cast some uncertainty on their business strategy. For example, market rumors about potential mergers and acquisitions in the sector may help expand banks to attract more deposits in the medium term.

Some national policies mentioned in the annual “two sessions” may stimulate certain sectors. Environmental protection plays would be interesting for short-term bets as most policy-driven stocks will benefit in the medium and long term.

Infrastructure stocks stand to gain from the government’s commitment to maintain growth and employment. And military stocks may profit from the nation’s move to build its own aircraft carrier.

The ongoing crackdown on corruption in the military sector and future increase in the military budget will also benefit listed firms that are supplying raw materials to military enterprises. For example, China Zhongsheng Resources Holdings Ltd. (02623.HK) looks quite interesting.

This article appeared in the Hong Kong Economic Journal on March 10.[Chinese version中文版]

Translation by Julie Zhu

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columnist at the Hong Kong Economic Journal

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