China Financials 30° turn in policy 180° turn in sentimen...-110786530

M IdeaChina Financials | Asia Pacific30° turn in policy & 180° turn in sentiment; where to invest?Morgan Stanley Asia Limited+Richard Xu, CFAEquity Analyst Richard.Xu@morganstanley.com +852 2848-6729 Chiyao HuangEquity Analyst Chiyao.Huang@morganstanley.com +852 3963-4624 Rick ZhaoEquity Analyst Rick.Zhao@morganstanley.com +852 2239-7033 Beryl YangResearch Associate Beryl.Yang@morganstanley.com +852 3963-2224 CoCo GongResearch Associate CoCo.Gong@morganstanley.com +852 3963-4703 China FinancialsAsia PacificIndustry ViewAttractiveRelated reports: China – Banks: Look for outperformance for the fourth year in a row (15 Aug 2024) China Property and Financials: Thoughts on Inventory Digestion Paths: Financial Risks Largely Behind Us Now (4 Jun 2024) China's 3D Journey – Financials: Assessing the cost of supporting ongoing industrial upgrades (21 May 2024) China Financials: The myth of income, spending and financial asset growth (23 Jun 2024) China's 3D Journey: China Financials: What a long-term LGFV solution could look like (15 Sep 2023) We put the recent policy efforts into the context of historical policy moves and financial system numbers to gauge the impact on credit and risk cycles. We believe the improved policy communication will reduce concerns on major downside risks and risk premiums once the dust settles. Not a 180 degree turn in policy, but could help improve confidence in the remainder of the cycle. Since the property deflation cycle in 2021, policy makers have pushed loan yields lower by ~200 bps to ~3.6% and raised government bond issuance from ~Rmb4tn to Rmb9.4tn per year. Loan window guidance, effectively quantitative easing (QE) in China, has helped maintain healthy TSF growth since 2021. Despite market concerns that policy makers did not prioritize economic growth, these policies showed otherwise and supported China's growth despite Covid and a major property deflating cycle. While policy makers could modestly cut rates further and increase some fiscal support to offset lower than budgeted government revenue, supporting TSF at 7-8%, the focus on financial risk controls in particular will not likely change with recent fiscal policy also prioritizing risk containment. Hence, we see a continuation of supportive policies; however, better communication with the market and legislative focus on protection and support of private businesses should notable reduce equity risk premiums for financial stocks. New policy tone may help investors look beyond the cycle, while both property and industrial cycles will still likely bottom in 2H25. The industrial investment expansion is also facing some cyclical downturn after capex grew at a CAGR of 10% since 2021. This has further weighed on credit demand and overall growth given the property deflation cycle is not yet over. While some new policy support could help overall demand, we believe industrial investment growth may need to slow to well below 5% to reduce PPI pre