The CSI 300 Index is a free-float market capitalization-weighted index that is compiled and published by China Securities Index Co., Ltd (“CSI”) since 31 December 2004. The index universe of CSI 300 Index includes all the A Shares listed on the Shanghai Stock Exchange, the Shenzhen Stock Exchange and the ChiNext who satisfied the criteria prescribed by CSI. The CSI 300 index covers about 60% of the total market capitalization of the China A-share market and aims to reflect overall trend and performance.
The CSI 300 index is divided into ten sector indices covering various industry sectors in China. They follow similar calculations and maintenance as the main index and aims to provide what is going on within each sector in China. The list of sector indices includes: Financials (40.8%), Industrials (16.0%), Consumer Discretionary (11.0%), Information Technology (8.2%), Consumer Staples (6.9%), Materials (5.4%), Health Care (4.2%), Utilities (3.8%), Energy (2.4%) and Telecommunication (1.4%) (as of 19 December 2016).
After the implementation of the circuit breaker system in January 2016, the CSI 300 index dropped -21.0% for the month, which is the biggest decline since August 2009. Although the market rebounded gradually after the slump for the rest of the year, the index still recorded a -10.8% year-to-date loss (as of 19 December 2016). Currently the index is trading at 14.1X and 12.5X estimated PE ratios for the year 2016 and 2017 respectively, lower than our estimated fair PE ratio of 15.0X. For the year 2017, China is our most favorable country to invest with a stabilisation in economic growth momentum; the real estate cooling measures and the moderation in the bond market should also help in promoting capital to flow back to the equity market, hence we have given the A-share market as represented by the CSI 300 index an "Attractive" rating.
Financials
With around 40.0% weightage, financials is the largest sector within the CSI 300 index. Banks who take up around 44.0% of the CSI 300 financials index are the largest constituents within the field, followed by brokerage firms, insurance firms and real estate companies, who respectively take up 28.0%, 15.0% and 14.0% of the sector.
Notably, the largest constituent within the sector is Ping An insurance group, who alone represents 10.0% of the sub-index; it is accompanied by Industrial Bank, China Minsheng Bank, China Merchants Bank and Bank of Communication.
Table 1: Earnings Growth Estimates
| 2015 | Estimated 2016 | Estimated 2017 | |||||
|---|---|---|---|---|---|---|---|
| Banks' Earnings Growth | 3.4% | 2.7% | 5.2% | ||||
| Source: Bloomberg, iFAST compilations. Data as of 19 December 2016 |
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Banks generally suffer from tightening net interest margins in 2016 as central bank carries out a relatively aggressive monetary policy, resulting in earnings growth slowing down across the board. The situation shall improve in 2017, where the government focuses more on stabilisation instead of growth, and thereby leading to a lower probability of further rate cuts with less emphasis on monetary policy. In fact, we may even see tightening liquidity which may help the banking sector's profitability; it is expected for the sector to show strong earnings growth in year 2017.
Non-performing loans (NPL) remain to be the market’s concern, weighing down on the sector’s valuations, with many banks currently trading at price-to-book ratios lower than 1.0X. Although the NPL ratio may not see meaningful improvement next year, it is likely to be capped. Stabilisation of the Chinese economy together with the assistance of asset securitisation like debt-equity swaps shall keep NPLs under control; the consensus may have been too negative on the sector as reflected in overall depressed valuations. We remain cautiously optimistic on the sectors’ outlook. The iShares CSI A-Share Financials Index ETF (2829), db x-trackers CSI300 Financials UCITS ETF 1D (2844) and db x-trackers CSI300 Banks UCITS ETF 1D (3061) are HKEX-listed exchange-traded funds (ETFs) that track this sector.
Real Estate
Real Estate represents around 6.0% of the CSI 300 index. The sector is dominated by China Vanke Corporation and Poly Real Estate Group, who respectively take up 29.0% and 14.0% of the field.
The sector slumped within the first half of December, as markets started to worry about the outlook of the property market. We believe the correction is rational and remain cautious on the sector down the road moving into 2017.
Table 1: Earnings Growth Estimates
| 2015 | Estimated 2016 | Estimated 2017 | |||||
|---|---|---|---|---|---|---|---|
| Real Estate Earnings Growth | 4.6% | 7.1% | 19.8% | ||||
| Source: Bloomberg, iFAST compilations. Data as of 19 December 2016 |
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According to the latest Central Economic Work Conference which ended on 16 December 2016, Chinese officials vowed to curb a potential asset bubble and stated that "houses are for people to live in, not for people to speculate". The statement echoes our view that we may see further tightening on the first-tier and popular second-tier property market heading into 2017. Property prices therefore are prone to correction after rising continuously in 2016. The business environment should be tough next year, and markets may not have fully incorporated such risks as of yet, as reflected in the estimation of earnings growth.
We have already observed a deceleration of property prices in November on a month-on-month level, as the new round of tightening measures back in October finally started to show its intended effects. Further tightening shall therefore be impactful, given that the market is already tuning down their optimism.
In terms of overall valuation, the sector is trading at 12.3X estimated P/E for current fiscal year, higher than the 10.4X historical average since 2010. In our belief, the tough business environment in the future is not being properly compensated with a lower valuation, we currently dim the sector as unattractive. The db x-trackers CSI300 Real Estate UCITS ETF 1D (2816) tracks the above sector.
Industrials
The industrials sector represents roughly 16.0% of CSI 300, which is the second largest sector within all ten sectors. It includes segments like transportation infrastructure, Construction & Engineering, Road & rail and many more.
Among 62 constituents, the largest two constituents within the sector are China State Construction Engineering Corporation (CSCEC) and China Railway Rolling Stock Corporation (CRRC), which take up 11.02 and 7.33% of the sector respectively.
The public-private-partnership (PPP) model as promoted by the government has set a strong foundation for the sector to grow in the upcoming year. According to China Public Private Partnerships Center, as of 31 November 2016, there are 10,685 PPP projects in pipe-line with total project size of CNY 12.74 trillion, we may see the figure to rise further in 2017, as we expect the government to emphasise infrastructure investment in the hope of countering possible weakness in property sector.
The ongoing implementation of PPP projects helps create additional demand for industrials products and are beneficial for the sector’s earnings. As example, vast amount of transportation infrastructure and advanced manufacturing firms have already received new business orders related to the PPP projects in 2016.
In terms of valuation, the sector is trading at 23.24X trailing PE as of 19 December 2016, which is above 20.1X historical average since 2008. However, supported by government’s stimulus and further implementation of PPPs, the industrials sector is poised for a strong growth in upcoming years with estimated earnings growth of 19.14% for year 2017. The current high valuation is hence justified by the earnings prospects, with estimated 2017 valuation falling back to 17.0x. We remain cautiously optimistic on the sectors’ outlook. On the platform, the db x-trackers CSI300 Industrials UCITS ETF 1D (3005) ETF tracks the sector.
Consumer Discretionary
The Consumer Discretionary sector represents around 11.0% of the CSI 300 Index. The top 2 dominant constituents, Gree Electric Appliances and Midea Group, are both household electrical appliances manufacturers who respectively take up 14.0% and 10.0% of the field.
We see the economic transition from traditional industrials to services and consumers sectors as promoted by the government as fruitful, with retail sales constantly growing at rate higher than 10.0%. From January to November, the cumulative retail sales of China was RMB 3,096 billion, up 10.8% year-on-year.
The current growth in spending is looking to be sustainable in the long term, with an improving consumer confidence while the government introduces new accommodative policies, such as “Reducing Costs of Real Economy Enterprises” and “Healthy China 2030”. The market forecast for the sectors’ earnings are of 8.7% and 14.2% respectively for year 2016 and 2017, and we believe the figure is achievable with the above-mentioned positive factors.
The consumer discretionary sector suffered from the January equity market correction and recorded a -15.9% year-to-date return as of 19 December 2016. After the correction, the sector’s current estimated PE ratio is 14.7X and 12.9X for year 2016 and 2017 which are both below its 10-year average PE ratio of 18.4X. We believe the consumer discretionary sector is attractive in 2017 with possibility to benefit from a rebound in prices and demand within 2017. We have the HKEX-listed ETF db x-trackers CSI300 Consumer Discretionary UCITS ETF 1D (3025) that tracks the above sector.
Energy
The energy sector represents around 2.4% of the CSI 300 index. The largest three constituents within the field are China Petroleum & Chemical Corporation, a super-large petroleum and petrochemical enterprise; PetroChina Co Ltd, the largest oil producer and distributor in China, and China Shenhua Energy Co Ltd, the largest coal supplier in the world. They take up 24.0%, 16.5% and 14.1% of the sectors' weighting respectively.
Earnings growth of the energy sector is heavily affected by the prices of crude oil and coal. Overcapacity and excess inventory were major concerns in the sector before, which lead to the lower oil and coal prices. However, the capacity cut as imbedded in the supply side reform has been running smoothly with inventories of coal cut by more than half and its output reduced by more than 10.0%, resulting in a sharp 120.0% rise in the price of coking coal.
We believe coal prices shall still be on an upward trajectory, yet in a much slower pace. The capacity cut on coal will likely continue but at lower speed, as we are already approaching the demand-supply equilibrium after all the cuts in 2016.
As regarding to crude oil, prices shall gradually increase with prospects of global supply lower than demand if OPEC were to fulfill their agreement signed in November 2016. However, we believe the rises in price shall be capped, as US shale oil is going to resume their production with rising oil prices, leading to additional supply, creating a new balance between oil and supply and capping overall prices.
As a result, we think the earnings growth of energy sector will improve in the short term considering the continued supply side capacity cuts in 2017. But in the long term, the price of coal and oil will not continue to increase, which will limit the earnings growth of this sector. The db x-trackers CSI300 Energy UCITS ETF 1D (3017) on the platform tracks the CSI 300 Index’s energy sector.
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