Race for safety in Chinese utilities stocks may bode ill for wider market, history suggests

Zhang Shidong

Chinese traders are turning more defensive in the world’s only major stock market that has not slipped into bear territory: snapping up domestic utilities companies.

But if history is any guide, this rush for shelter in power companies – seen as a safe bet with their high dividends and stable cash flows – may bode ill for the broader market. Their performance tends to move inversely to the overall trend.

While China’s markets have so far remained relatively resilient to the coronavirus-driven sell-offs across the world, sentiment among local investors has taken a sharp turn. Gone is the risk-on mode in which investors chased a rally in small-caps, replaced by a prevailing mood of caution.

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A sub-gauge of utilities companies, mainly power producers, on the CSI 300 Index shows it has been the best-performing sector of the past month. A measure tracking technology stocks ranks bottom in the same period.

The utilities gauge of companies including China Yangtze Power and Huaneng Power International has slipped only 1.8 per cent over the past month, trouncing a 9.7 per cent loss on the CSI 300. The sub-index of technology stocks, which was trading at a four-year high as recently as February, has plunged 24 per cent.

“Against the backdrop of rising global volatility, the market is chasing something that can be seen clearly and has a stable outlook,” said Wu Kan, an investment manager at Soochow Securities in Shanghai. “Utilities stocks have won investors’ favour, because they have very stable cash flows and pretty high dividend yields. That’s what investors like now.”

The utilities gauge delivers a dividend yield of 2.9 per cent, the highest among the 10 industry groups on the CSI 300, according to Bloomberg data. That return even exceeds the yield on China’s 10-year government bond, which stood at 2.6 per cent on Wednesday. The yield on US government treasuries with maturity of 10 years was 0.83 per cent.

Strength in the defensive companies is often an inauspicious sign for the broader market. While utilities ended up as the best-performing sector in 2018, the CSI 300 tumbled 25 per cent in that year as the US kicked off a protracted trade war against China.

When the CSI 300 posted a full-year gain of 36 per cent last year, utilities stocks slipped back to the bottom of the pile, becoming the worst performers.

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The CSI 300 is down 9.1 per cent this year and remains almost 10 per cent above the level that would send the gauge of bigger companies into a bear market. The benchmark Shanghai Composite Index is within 6 per cent of bear territory.

Overseas investors have already turned cautious amid the global meltdown. They have sold 71.5 billion yuan (US$10.1 billion) of Chinese stocks this month through the Stock Connect – cross-border investment programme with the Hong Kong exchange.

“Risk appetite won’t be coming back until there’s a turning point in the global coronavirus pandemic, particularly in the US,” said Wu Soochow Securities.

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