Zhongjin: "The Bull Market That Was Ignored"

How far can the liquidity-driven market go? Since the shift in policy towards "924" last year, the domestic market has rebounded from the bottom, far exceeding the expectations of even the most optimistic at the beginning. After July this year, supported by narratives such as "capital inflows", "deposit relocation" and "de-dollarization", the market has accelerated upwards, with the Shanghai Composite Index and Hang Seng Index rising by up to 47% and 50% from the bottom, ushering in a "bull market" trend. However, as the market continues to rise, divergences are also widening. On one hand, the current market is already at a level far different from over a year ago, which cannot be considered cheap. Some high-growth sectors have become "expensive". For example, in the Hong Kong stock market, the Hang Seng's dynamic PE ratio is 11.6 times, close to one standard deviation above the mean since 2015. The risk premium was even lower than the low point in the early 2018 shackles turnover cycle, making it hard to call it "cheap". Someone might say that 1) compared to oneself, it's not cheap, but compared to other markets like the US stock market, it is still low (for example, the S&P 500's dynamic valuation is 22.3 times). At first glance, this may seem true, but a simple comparison without considering profitability, liquidity environment, and investor structure is not only meaningless but also misleading. For example, looking at "core assets" like leading technology companies, the median PE ratio of Chinese leaders at 17.8 times is higher than the 9.6% median profit margin, while the median PE ratio of M7 at 30.2 times is actually more matched with the 29.8% median profit margin. On the absolute valuation perspective, US stocks are indeed higher, especially for technology leaders. Source: FactSet, CICC Research Department Combining profitability, some Chinese technology leaders are overvalued. Source: FactSet, CICC Research Department 2) There are significant structural differences, and the overall method doesn't make much sense. Currently, the risk premiums of traditional sectors such as finance, cyclicals, and real estate have fallen below historical average one standard deviation, while new consumption and innovative drugs have recently been declining, with risk premiums around historical averages. The risk premiums for internet technology are also lower than historical averages, but still have a gap from the high levels of the HSI technology peak in early 2021. Source: Bloomberg, FactSet, CICC Research Department Source: Bloomberg, FactSet, CICC Research Department On the other hand, there continues to be a divergence between the "hot" financial sector and the "cool" economy. After August, various domestic demand-related data points have accelerated their declines. Recent data from October credit data also confirms our previous judgment that the credit cycle will reach a turning point in the fourth quarter. Source: Wind, CICC Research Department In September, the scale of fiscal deficit year-on-year decreased. Source: Wind, CICC Research Department "Scarce assets" are determined by the credit cycle. Source: CICC Research Department At present, the market is no longer concerned with whether a bull market can be brought about solely by liquidity and lack of fundamentals. The bull market has already appeared, and now the question is how far can this bull market go? In our previous research reports, we analyzed the behavior of Japanese residents in the low-interest rate environment and three rounds of "bull markets" after the bursting of the real estate bubble in the 1990s, and found a pattern: relying solely on low-interest rates and a "bull market" environment can promote active trading, but it is difficult to form a long-term positive feedback loop of "funds entering the market -> wealth effect -> funds entering the market". In other words, a bull market driven solely by liquidity can exist, but there will always be a "ceiling". So, where is this "ceiling"? And what can break it? What lessons can the three rounds of "bull markets" in Japanese stocks provide? "The Ignored Bull Market": Revisiting the three rounds of bull markets in 1990s Japanese stocks Contrary to common knowledge, the Japanese stock market bottomed much earlier than imagined after the bursting of the real estate bubble in 1989, with the bottom being reached in 1992. Three rounds of bull markets with percentage gains close to or exceeding 50% and lasting over a year were seen in 1992, 1995, and 1998. But why are these bull markets considered "ignored"? One reason is the deep-rooted impression of "lost three decades" in Japan, while each round of the bull market lasted only about a year and started to decline at roughly the same high point, leading to a view from a long-term perspective that it was just "box range shaking". Source: Bloomberg, FactSet, CICC Research Department Further exploring why the three rounds of bull markets in the 1990s Japan started, what drove the gains in each round, how they ended, why they couldn't break through the "ceiling", and the behavior of different entities, can provide significant lessons for the present. First round (1992-1993): 54% rebound, lasting 12.8 months; fiscal turnaround driving, first finance then technology, valuation-led Trigger: The first round of the bull market was born out of a fiscal turnaround driving. After the bubble burst in the early 1990s, the Japanese stock market began to decline from its peak in 1989. By 1992, the Nikkei 225 and Topix indices had fallen by 63% and 62% respectively from their peaks. Despite the Bank of Japan lowering interest rates significantly from July 1991, credit growth for Japanese companies and residents continued to decline rapidly, dragging down private demand and GDP growth, and the stock market couldn't reverse its downward trend. It was only in August 1992 when the Miyazawa cabinet announced a 10.7 trillion yen fiscal stimulus, accounting for 2.2% of GDP that year and used to expand public investment, that the stock market rebounded. Process: The Topix index rebounded 54% from its low point in August 1992 to its peak in September 1993, lasting 12.8 months. It can be divided into three stages: 1) Quick rally: Within less than a month of the 10.7 trillion yen economic relief announcement in August, the Nikkei 225 and Topix indices rebounded by 32% and 28% respectively. 2) Retracement volatility: Following the negative year-on-year growth in Japan's M2 money stock and the accelerated decline in consumer confidence index, economic data falling short of expectations led to a market correction until November 1992. 3) Another rebound: After about four months of volatility, the overall index rebounded again until September 1993 following a 75bp rate cut by the Bank of Japan after a 7-month hiatus in February, and a 13.2 trillion yen stimulus announced by the Miyazawa cabinet in April. 1) Valuation expansion was the main contributor, while earnings actually declined. The static PE ratio of Japanese stocks expanded by 106% during the first bull market, while the implied EPS growth rate fell by 25%. 2) In the initial stage, leading sectors were finance and real estate, which had been oversold during the bubble collapse. In the later stages, information and communication technologies caught up and took the lead. 3) Looking at investor structure, the percentage of individual investors rose significantly at one point, foreign investors decreased, and institutional investors rose. During the early stages of this bull market, Japanese individual investors were excited, with the percentage of their transactions rising from 18.7% in September 1992 to 26.7% in November, but dropping back to a low of 15.5% during market volatility until April 1993, before rebounding to 25.5% before the end of the bull market. Comparatively, the percentage of transactions by foreign investors rose from 18.8% in the early stages to 24.1% in September but continued to decline until reaching 13.8% by July before the bull market ended, while institutions saw a rise from 25.0% to 33.7%. End: The overall fundamental weakness and unmet policy expectations led to the end of the first round of the bull market. In September 1993, the Japanese government announced a 6.15 trillion yen stimulus, and the Bank of Japan cut rates again by 75bp, but the scale of the fiscal stimulus was not enough to keep the stock market rising. Coupled with the emerging bad loan problems of banks, the Japanese stocks began to decline from September 1993. Over the following three months, the Nikkei 225 and Topix indices fell by 23% and 20% respectively, with sectors that had seen significant gains during the bull market, such as information and communication technology and finance, leading the decline, while retail trade, electricity, and gas sectors showed smaller declines. Second round (1995-1996): 50% rebound, lasting 12.6 months; stock market stability fund + post-disaster reconstruction investment trend, valuation and earnings-driven Trigger: The second round of the bull market began as a stimulus response to the Hanshin earthquake and the impact of the yen appreciation in early 1995. At the beginning of 1995, the Japanese economy was shrouded in the aftermath of the Hanshin earthquake and the yen appreciation. On the one hand, the enormous economic losses caused by the Hanshin earthquake in January 1995 also brought about a demand for post-disaster reconstruction. On the other hand, the need for funds included safe-haven demand caused by the Mexican peso crisis at the end of 1994, the early "weak dollar" policy of the Clinton administration, and the post-earthquake capital inflow demand in early 1995, all of which pushed the yen's appreciation by 20.5% in less than four months. To address this situation, the Japanese government announced a 4.8 trillion yen emergency economic measure in April 1995, and the Bank of Japan cut rates by 75bp to bring the benchmark rate down to 1.0%, which propelled the Nikkei 225 and Topix indices to rise by 11% and 8% respectively in just one month. Process: In June 1995, the Japanese government established a 2 trillion yen "stock market stability fund", driving the Japanese stock market into a second round of the bull market lasting 12.6 months, during which the Nikkei 225 and Topix indices rose by 56% and 44% respectively. During the early stages of this bull market, there were favorable domestic and external environments for economic recovery and stock market rise. Internally, following the market stabilization fund entry in June, the government further accelerated the stimulus in September with an additional 14.2 trillion yen, coupled with a 50bp rate cut by the Bank of Japan. At the same time, the US dollar against the yen appreciated from a low of 81 in April 1995 to a high of 105 by September, stimulating Japanese exports and the rise of Japanese stocks. Externally, in July 1995, amid the "preventive" rate cut by the Federal Reserve in the US, the loose external environment was also created. In this context, the Japanese economy showed signs of recovery, with real GDP growth rate increasing from 1.3% in the first quarter of 1995 to 2.9% in the second quarter, staying above 3% until before the third quarter of 1996, and the consumer confidence index rose from 42.1 in September 1995 to 46.9 in June 1996. The Japanese stock market continued to rise until early 1996, experiencing: 1) The valuation-driven expansion was the main driver, with the PE ratio expanding by 24% during the second round of the bull market, while earnings grew by 16%. 2) All industries experienced gains, with sectors such as transport equipment, precision instruments, and machinery showing higher gains. 3) In terms of investor structure, the percentage of individual investors in the market continued to rise, while that of institutional investors declined, and the proportion of foreign investors remained relatively stable. End: The second round of the bull market was ended by expectations of fiscal tightening and the emergence of non-performing asset issues. At the end of 1995, the emergence of non-performing assets at "Zhu Zhuan" led to a decision by the Japanese parliament to inject 680 billion yen into the company to cover the shortfall, which sparked public dissatisfaction and led to market decline in the following months. Third round (1998-2000): 60% rebound, lasting 16 months; a structural market driven by the information technology revolution, valuation-led, and increased participation by individual investors Trigger: The start of the third round of the bull market was driven by internal policy stimulus and external trends in the information technology revolution. After 1998, Japan's fiscal focus shifted from infrastructure to structural issues and livelihood support. The share of public works in fiscal spending decreased from 17% in 1998 to 7% in 2010, while social welfare spending increased from 18% in 1998 to 30% in 2010. Following a growing concern over the debt pressures on banking systems, various policy measures were introduced to stabilize the financial market and economy after the crisis hit in 1998. These measures included the introduction of the "Financial Revitalization Act" in October 1998, utilizing 6 trillion yen of public funds, with 2.5 trillion yen used directly for bank recapitalization and the remaining amount used to deal with bankrupt financial institutions and other issues. In November, the Koizumi cabinet introduced an additional 23.9 trillion yen fiscal stimulus, specifically targeting employment with a dedicated budget. Combined with the transmission of the US internet market trend, the Japanese market experienced its third round of the bull market after October 1998, lasting 16 months until March 2000, when the dot-com bubble burst. In this period, the Nikkei 225 and Topix indices rose by 62% and 79%, respectively. Process: With internal policies gradually addressing structural problems and capitalizing on external robust industrial trends, the third round of the bull market lasted longer and had a larger increase in percentage compared to the previous two rounds. The initial period of the market rebounded in October 1998 and turned downward at the end of 1998, but the Bank of Japan's zero interest rate policy in February 1999, and then the implementation of a 7.5 trillion yen recapitalization for the banking sector in March, continued to drive the market upwards. The Koizumi government maintained loose fiscal and monetary policies, combined with global economic recovery and industry trends, saw signs of economic recovery in Japan, with real GDP growth rate increasing temporarily, and consumer confidence rising from its lows in 1995 to a peak in 2000. However, the economic recovery was not solidly anchored, and price stagnation persisted, with the CPI remaining negative post-1998. End: The bursting of the dot-com bubble eventually ended the third round of the bull market. In March 2000, as the Nasdaq bubble burst, leading to a global stock market correction, the Nikkei 225 index reached a peak of 20,833 in April 2000, plummeting to 13,786 by the end of 2000, a decline of 34%. Subsequently, with Junichiro Koizumi taking office in April 2001 and advocating for structural reforms rather than continued large-scale fiscal stimulus, Japan's unemployment rate continued to rise, reaching 5.4% by the end of 2001. Coupled with the risk aversion that followed the "911" event in September 2001, market sentiment was further eroded, leading to a continued bear market in Japanese stocks until 2003, marking a new low post the dot-com bubble burst. The "Beginning" and "End" of the bull market: "Beginning" with substantial stimulus and external industrial trends; "End" with weak fundamentals, policy deviations, internal and external risks exposure, and heightened sentiment Looking at the three rounds of bull markets in 1990s Japanese stocks, the inability to break through the "ceiling" and falling into a cycle of "box range shaking" can be attributed to fundamental weaknesses and policy deviations, internal and external risks exposure, and heightened market sentiment. To truly break this cycle and usher in a bull market that has lasted for over 10 years to date, the key lies in targeted policy shifts that address structural issues effectively. Currently, the lessons from the three rounds of "bull markets" in Japan show that while short-term gains can be driven by policy and industrial trends, it is essential to focus on: 1) the sliding strength of policy, 2) external risk factors such as AI bubbles, and 3) internal risks such as debt exposure. After all, the current PE TTM for the Shanghai Composite Index and the CSI 300 has reached 16.6x and 14.2x respectively, located at the 94% and 84% percentile since 2015. When evaluating the effective direction of policy efforts, it is crucial that a combination of technology and income expectations (subsidies, employment, and social security) should be prioritized, followed by debt restructuring and property early on, while infrastructure and stock market wealth effects should be seen as short-term solutions. Drawing from the experiences of Japan, efforts to nurture new growth points, especially in the technology sector, together with a focus on boosting income expectations (subsidies, employment, and social security) to address incremental issues, and addressing debt-related pressures, will be key to addressing the current structural challenges. Comparatively, if more emphasis and effort are directed towards income expectations, social security, debt restructuring, and financial stability, we can anticipate a more optimistic outlook for future repairs, and ensure that "deposit relocation" and a "wealth effect positive feedback loop" can continue to expand. Researched and Translated by: [Insert Translator's Name]