24 March 2019
The Hang Seng Index has rallied more than 3,000 points or 10.2 percent in the first 17 days of this year.  Photo: Reuters
The Hang Seng Index has rallied more than 3,000 points or 10.2 percent in the first 17 days of this year. Photo: Reuters

Are we seeing the last leg of the stock market rally?

The Hang Seng Index has been performing extremely well since the start of the year. The huge gains have surprised many investors. A number of indicators suggest that the Hong Kong market is already in the final leg of the bull market cycle.

The benchmark gauge has rallied more than 3,000 points or 10.2 percent in the first 17 days of this year. In fact, this round of bull cycle started late last year, right after the index touched a bottom of 28,224 points on Dec. 6. That means it has jumped 4,734 points or 16.8 percent.

First of all, let’s define the last stage of a market rally. There are a number of criteria.

First, the Hang Seng Index has to hit a 52-week new high and be able to sustain it. Second, the index surges more than 20 percent very quickly. Then it usually slumps by 20 percent or more after the bull cycle ends.

There are several characteristics of the final rally, including steep and rapid rally, increasing volatility, extreme over-bought situation, soaring market turnover and frenetic market sentiment.

It seems the current rally of the Hang Seng Index has ticked many of these boxes.

What are the main drivers of this round of rally?

Apart from improving earnings growth, a key factor is that global investors are actively rotating back to equity market and getting out of the debt market. This rotation, in fact, started at the end of third quarter of 2017.

We’ve seen massive capital outflows from the debt market since September last year and inflows into stocks through exchange-traded funds.

The spread between two-year US Treasury yield and S&P 500 dividend ratio started to widen in the second half of last year, further confirming the capital rotation into equities.

The 10-year US Treasury yield has already risen to the critical chart point of 2.6 percent. If the yield rises further, it would be breaking a long-term yield decline trend decisively, and this could trigger even more capital flight from the debt market.

It is also likely that the recent rally has been fuelled by investors’ fears of missing out on the uptrend.

Many retail investors had stayed away from the stock market as a result of their painful experience in the 2015 market crash, before deciding to jump on the bandwagon again amid the sustained and powerful rally.

This kind of panic buying has contributed to the heady daily market turnover, which has reached HK$200 billion.

The same thing seems to be happening in the US market. An asset allocation survey by the American Association of Individual Investors revealed that the stock holding ratio spiked last month to hit above 70 percent of the retail investors’ portfolios for the first time since the mid-2000s.

These newcomers will only further fuel the stock market boom in the US and Hong Kong.

The question is, when will the Hong Kong equity party end?Based on data of 17 bull markets since 1970, the last stage of the bull cycle usually lasts no more than eight months.

Therefore, the current bull cycle is likely to end in the second or third quarter of this year.

This article appeared in the Hong Kong Economic Journal on Jan 25

Translation by Julie Zhu

[Chinese version 中文版]

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Hong Kong Economic Journal chief economist and strategist

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