What's Next For Chinese Stocks After Stimulus Rally Stumbles?

Key Takeaways

• Chinese stocks hit resistance on Tuesday after an update from the government on economic stimulus failed to meet investor expectations.
• The announcement of stimulus measures, including lowering interest rates and freeing up capital at banks, in late September had propelled Chinese equities to two-year highs.
• Analysts say the economy will require more robust fiscal support to stage the turnaround that equity markets are anticipating.

Chinese stocks came under pressure on Tuesday after a disappointing update from the government tempered some of last month's exuberance that propelled Chinese stocks out of a bear market in recent weeks. 

The country’s economic planning agency said Tuesday it would accelerate some planned investments meant to help the country meet its 2024 growth goals but abstained from outlining new stimulus measures.

Late last month, the Chinese government announced a spate of monetary stimulus measures including lowering banks’ reserve requirements, cutting interest rates, and supporting equity markets. The long-awaited package restored some investor confidence in China, prompting a massive rally. The CSI 300, an index of mainland China’s largest stocks, soared 25% in a week. Hong Kong’s Hang Seng index also advanced more than 25% to a 2-year high. 

Investors were expecting more from Tuesday’s announcement. The CSI 300 jumped about 11% Tuesday morning as mainland markets reopened after a weeklong holiday, but pared its gains and closed up 5.9%. The Hang Seng tumbled more than 9% on Tuesday.

Shares of Chinese companies trading on U.S. exchanges also fell sharply on Tuesday. Chinese e-commerce giant Alibaba Holdings (BABA) fell 6.7%, while competitors JD.com (JD) and Temu-parent PDD Holdings (PDD) declined 7.5% and 5.4%, respectively. Electric vehicle makers Li Auto (LI) and Nio Inc. (NIO) each fell 8.1%.

Is China's Stimulus Rally Over?

Before Tuesday’s announcement, some analysts worried that the rally had gotten ahead of itself. “On a shorter-term basis, price action is extremely overbought, and a pullback would not be surprising,” wrote Adam Turnquist, Chief Technical Strategist at LPL Financial, in a note last week. 

Pullbacks are common after a run-up as investors lock in profits, and they don’t always mean that the advance is over. That is especially true, Turnquist wrote, when a rally like this catches short-sellers by surprise, forcing them to cover their positions by buying the security they’ve sold short. According to the most recent Bank of America Fund Manager Survey, “short China” was the second most popular trade among professional money managers.

However, traders may still want to approach Chinese stocks with caution. “On a relative basis, China has made progress when compared to U.S. equity markets, but there is insufficient technical evidence suggesting a trend change toward sustainable China leadership is imminent,” said Turnquist.

What Will it Take To Revive the Rally?

Most experts agree that sustainably turning around China’s flagging stock market will require doing more to support the real economy. 

“So far, the approach is more directly beneficial for Chinese equities than for real growth and commodity demand,” wrote V22 Research analysts Michael Hirson and Houze Song in a note on Saturday. The government, they said, will need to unveil more robust measures to boost consumer spending and support the property sector for the wider economic outlook to improve. 

Hirson and Song see that stimulus coming closer to the end of the month, when they expect the government will announce “CNY 1 trillion yuan of stimulus spending over the next several quarters.” 

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