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Credit Suisse: inexpensive valuations is key for small cap investors in the Year of Snake; China offers best risk-return ratios; eight China/ Hong Kong picks with 18% potential upside

The Hang Seng Index, which increased 2.9% on the first trading day of 2013, could record positive returns in the year of the Snake in 2013 if the January effect is anything to go by. Credit Suisse said the January effect has a hit rate of 83% based on data from 2001 to 2012.

In a report entitled “How to Spend Your Lai See” published today, Credit Suisse analysts picked eight small caps in China and Hong Kong with projected 2013 P/E of 10.4x and an average potential upside of 18% by their estimates over the next 12 months. The picks include:

  • China consumer discretionary - Anta Sports (2020.HK), target price HK$8.30 

  • Hong Kong property - Champion REIT (2778.HK), target price HK$4.83 

  • Hong Kong consumer discretionary - Chow Sang Sang (0116.HK) target price HK$24.10 

  • Hong Kong industrial - Kingboard Chemical (0148.HK) target price HK$29.50 

  • China industrial - Lonking (3339.HK), target price HK$ 2.40 

  • China consumer discretionary - Skyworth (0751.HK), target price HK$ 5.50 

  • Hong Kong industrial - Varitronix (0710.HK), target price HK$5.00 

  • China material - West China Cement (2233.HK), target price HK$1.75 

“We see long term small cap investment opportunities in China and Hong Kong, with China offering the most favourable risk-reward ratios after three consecutive years of underperformance in the region, ” said Kenny Lau (劉紹文), Credit Suisse Head of Small-Cap Research, non Japan Asia. He pointed to business improvement among upstream manufacturers in the past few months, a sustained low interest rate environment, and a stablizing Chinese economy for his optimism.

However, he cautioned that picking stocks with inexpensive valuations would be crucial after a five-month cyclical recovery rally that started in September 2012. His eight small cap recommendations in the Year of the Dragon recorded returns of 73%. Hong Kong and China picks for the Year of the Dragon also posted returns of 45% and 30% respectively.

Credit Suisse forecasts some upside potential but not a big bull market in China this year, recommending overweight in consumer discretionary, insurance, banks and transportation. “We remain concerned about the structural issues of the Chinese economy, where a high growth environement in the near term is unlikely,” said Vincent Chan (陳昌華), Credit Suisse Head of China Equity Research. Credit Suisse’s 2013 index targets for MSCI China, H-share and Shanghai A are 70, 14,000 and 2,600 respectively, or 7-15% implied upside.

Cusson Leung (梁啟棠), Credit Suisse Head of Hong Kong, Conglomerates and Properties Research, said investors should focus on earnings recovery among Hong Kong listed companies. “The market will likely get excited over the prospects of some form of relaxation in China or further fiscal stimulus after China’s official leadership transition in Q1 2013,” said Mr Leung. He expects another year of asset inflation in Hong Kong, while sectors including property, retail, transportation and gaming, will benefit from a stabilizing Chinese economy. On the contrary he expects banks in Hong Kong to see the least growth in 2013. Credit Suisse’s year-end target for the Hang Seng Index is 25,500 based on a dividend discount model.