December 27, 2013 7:00 pm JST

Undervalued Shanghai stocks may rise in 2014


HONG KONG -- Shanghai stocks will likely close lower on the last trading day this year than they did at the beginning of the year for the first time in two years, with the Shanghai Stock Exchange Composite Index tumbling 7.4% as of Friday's close from the beginning of 2013.

     Although other Asian countries, such as Indonesia and Thailand, also saw their stocks fall from the beginning of the year, performances of Shanghai stocks were remarkably bad. On the other hand, Japanese stocks surged 55% from the beginning of the year, while Indian and Taiwanese stocks climbed 8% and 10%, respectively.

     Some market participants predict that Shanghai stocks will perform solidly in 2014 because bargain hunters are expected to buy stocks on dips. However, with the Communist Party of China set to seriously implement structural reform, it is difficult to forecast how the CPC's measures will impact the Chinese stock market.

     The biggest cause for the sluggish Shanghai composite index this year was a plunge in the middle of the year. After the benchmark index rose to this year's highest point on Feb. 6, it briefly entered a corrective phase and then reached a recovery high at the end of May. After that, the index abruptly dropped 16% over one month because the People's Bank of China moved to tighten its monetary policy to address the shadow banking system, which swelled debts held by municipal governments. The central bank's move panicked the market, with overnight interest rates reaching 13%. As a result, concerns about an economic slowdown quickly emerged, pushing down stock prices.

     The government hurried to introduce small stimulus measures intermittently, and the Chinese economy began recovering. China accomplished a relatively high economic growth of 7.8% on the year in the quarter ended September. Stock prices recovered slightly more than 10% from a low recorded in June. Investor sentiment improved as the CPC introduced drastic reform proposals, which include a measure to encourage a market-oriented economy, at its Central Committee's third plenary session, which is held every five years.

     However, the upward momentum did not last. Bank stocks continued to be weak, weighing on the Shanghai composite index, because the business environment is likely to become grim due to liberalization of interest rates. Short-term interest rates, which have been unstable over the near term, dropped 7% over the ninth straight day in December for the first time this year.

     Many market watchers believe that Shanghai stocks will become a buying target in 2014 because of their low valuation. Credit Suisse set next year's target for the Shanghai composite index at 2,700, up 28% from the current level. Goldman Sachs also expects Chinese stocks to be strong in 2014. Meanwhile, market players appear concerned that stocks' supply-demand balance will worsen because the Chinese securities authorities said initial public offerings would resume in January. Despite such concerns, more investors forecast that investor sentiment would improve because overvalued IPO prices are unlikely to be set thanks to various regulations that have been introduced by the authorities.