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Investing.com -- BCA Research is advising caution on Chinese equities despite recent gains, warning that policy-driven distortions continue to undermine profitability and long-term returns.
“China’s policy-driven constraints prevent the ‘destruction’ part of the creative destruction process. Instead, they entrench overcapacity, deflation, and poor profitability,” BCA Research wrote. The firm added: “We are reluctant to chase the rally in Chinese stocks in absolute terms.”
According to BCA, China exhibits “creative destruction with Chinese characteristics.” While businesses can easily enter new industries and capital is widely available, “soft-budget constraints and a policy focus on employment preclude loss-making firms from exiting or restructuring.”
The result, BCA said, is that “persistent financing of zombie companies sustains overcapacity, depresses prices, and erodes corporate profitability. Shareholders lose in the long run.”
Non-technology, media, and telecom (TMT) profitability is expected to remain weak, with BCA cautioning that “the gains in Chinese offshore TMT equities largely reflect the global AI hype.”
Reflecting this cautious stance, BCA has adjusted its positioning. The firm said it will “take a 9.2% profit on the long A-shares vs offshore index strategy,” downgrade A-shares from overweight to neutral, and upgrade the MSCI China Investable Index from underweight to neutral within its emerging markets equity portfolio.
BCA also highlighted “low capacity utilization and shrinking profits,” which it believes remain key challenges for investors.