CICC: The current pullback may already have reflected excessively bearish expectations

The Shanghai Composite’s year-to-date return turns negative again, and the market shows a broad sell-off today. Recently, China’s A-share market has been hit by factors such as volatility in overseas markets, resulting in a larger overall decline. The Shanghai Composite is down 2.1% today; the year-to-date return has turned negative again, and it first fell below the 250-day moving average line (the 250-day moving average) since April 7. Since its June peak, the CSI 300 has pulled back by 7%; the ChiNext Index and the STAR Market 50 have retreated by about 15% and 10%, respectively, from their highs, and the market is showing a broad-based sell-off. The pullback is even larger for mid- and small-cap stocks: since May 14, the All A shares equal-weight index and CSI 2000 have pulled back by 17% and 18%, respectively. At the industry level, the AI industry chain performed strongly in the early period. Since July, styles have seen another round of rebalancing, but a broad-based downtrend is still evident. Coal, banks, and agriculture/forestry/animal husbandry and fisheries have shown relatively better performance, while building materials, electronics, and communications have seen larger declines. With the market’s recent correction being large and the sell-off breadth being wide, the drawdown in the Shanghai Composite since mid-May has already approached the adjustment triggered by the US–Iran situation in March. This has also raised concerns among many investors about the A-share market’s mid-term performance. Compared with that, we believe the current short-term market pullback may have already over-discounted pessimistic expectations. A rebound could be just around the corner in the next 1–2 weeks. Quick commentary is as follows:

The recent market correction is mainly triggered by external factors, while internal microstructure issues also exist. Specifically: 1) Overseas AI negative narratives dominate. Recently, negative narratives related to the AI industry chain have been frequent. Since June 25, following Apple’s storage-price-related cost pressure and its decision to raise prices for its Mac and iPad, Meta on July 1 considered offering some excess AI computing power and model access services to external customers. A series of negative narratives have changed the market’s earlier optimistic expectations for AI computing demand, and concerns have intensified that high upstream conditions for AI may rebound negatively onto downstream demand. As a result, since late June, the upstream of the global AI industry chain has generally seen a clear pullback. The ChiNext Index, which has a higher exposure to overseas AI supply chains, has recently suffered a larger decline. In China’s domestic semiconductor sector, despite a rise of more than 30% in June, under the impact of changes in AI narratives, profit-taking adjustments have also emerged recently.

2) Risk sentiment contagion from overseas market volatility. Recently, the Korean stock market has become a focus for global markets. Earlier, storage leaders saw large gains, which was, to some extent, related to investors taking on much higher leverage. Since the beginning of the year, Korea’s exchanges, including other overseas markets, have issued large amounts of leveraged ETFs. Based on our estimates, at one point the size of leveraged ETFs related to the Korean market exceeded $50 billion, and the aggregated daily trading volume accounted for a relatively high share of turnover in Korea’s stock market. Recently, as the storage narrative has changed, the decline in Korea combined with leveraged trading stop-losses has formed a negative feedback loop. The Korean Composite Index’s cumulative decline from its peak has already reached 27.5%, and risk sentiment has spread to US stocks and even the A-share technology hardware sectors.

3) Recurring overseas geopolitical risks are also suppressing risk appetite. The US–Iran situation has become tense again. As conflict escalates and international oil prices rebound relatively quickly, expectations for tightened overseas liquidity have fluctuated repeatedly, constraining the performance of global risk assets.

4) Microstructure issues within the A-share market still need improvement. Earlier, in late June, A shares again saw overheated trading sentiment. The daily trading value of 3.8 trillion yuan corresponds to a turnover rate that has already exceeded 6%. Structurally, there is also an issue of overly crowded positioning in the technology sector. Last Thursday and Friday, the TMT sector’s share of A-share trading value rose rapidly to 52%, reaching the highest level in history. The semiconductor industry’s share of trading value has also reached 20%, while non-AI segments have faced clear pressure from capital outflows and have pulled back noticeably.

The current market positioning may have already reflected overly pessimistic expectations. We may be approaching a key opportunity for better arrangements this year. In the short term, as overseas narratives and liquidity improve, a rebound may come at any time. The market’s rapid decline recently has mainly been driven by overseas narratives and risk sentiment, implicitly reflecting concerns about the outlook for the AI technology revolution. In addition, from the valuation perspective, the equity risk premium of the CSI 300 has returned to above its historical average, and the dividend yield has risen to about 2.7%, which also implies relatively pessimistic expectations for the future. Regarding the AI revolution, Dr. Miao Yanrong from CICC proposed three standards for judging an AI bubble in Toward the New with a Long View—Capturing Certainty in Uncertainty: whether it improves productivity, whether leverage is increasing, and secondaries-market valuation. At present, the overall situation still appears relatively healthy and benign. Moreover, indicators such as ARR for Anthropic and OpenAI are still growing steadily, and the logic of AI forming a profitable business-model closed loop has not been broken.

With overseas cloud providers releasing business performance updates this month, it may further help dispel related concerns. Korea’s leveraged ETFs also show signs of accelerated clearing this month. In addition, if US inflation is expected to peak and fall this month, it will also help alleviate concerns on the liquidity front. In the short term, we believe negative factors have already been released to a greater extent, and the space for further market correction may already be fairly sufficient. Investors can gradually position themselves toward the direction of mid-year report and earnings optimism, and wait for positive catalysts. As the issue of microstructure crowding is digested step by step, we expect the market to form another relatively low point within the next 1–2 weeks this year, and then stabilize and rebound. From a mid-term perspective, we firmly believe that the A-share market will continue its trend of oscillating upward. In CICC’s strategy team’s Debating the Causes of a Bull Market, released last year, it pointed out that the resonance between the reconstruction of the international order and China’s industrial innovation trend is the core driving force behind this round of market gains and the revaluation of Chinese assets. We believe these two conditions have not changed and will continue to support the performance of Chinese assets.

CICC’s strategy team, in How to Form a “Bull Market with a Floor but No Ceiling”?—New Order, New Momentum, New Ecosystem, released at the beginning of the year, believes that as the macro paradigm shifts and reforms to the capital market system advance, the underlying environment for A shares has moved from quantitative change to qualitative change. The reconstruction of the international monetary order brings “a new order,” and the reallocation of global capital injects external momentum into A shares. Economic transformation and the rise of new-quality productive forces create “new momentum,” and the stability and sustainability of earnings have improved significantly. Investment and financing reforms, the “stabilize-the-market” mechanism, and medium- to long-term funds entering the market together build “a new ecosystem,” continuously strengthening market resilience and attractiveness, and providing conditions more than ever to form a “bull market with a floor but no ceiling.” With the stabilization of the A-share market since 924, there is strong hope that it will continue. A long-term, steady market relies more on fundamental improvements propelling the index rather than simply lifting valuations. It also helps continuously attract incremental capital, especially medium- and long-term capital entering the market, forming a virtuous cycle that is more conducive to the long-term healthy development of the A-share market.

For allocation, seek innovation while maintaining continuity, and the “temperature difference” will converge. In 2026 Outlook for China’s A-Share Market: Ride the Momentum and Proceed with Determination, which we published in November last year, we believed that growth still has advantages in 2026, but its relative performance compared with other sectors may gradually converge. After experiencing the past three years of capacity de-capacity cycle, together with policy initiatives such as “anti-involution,” more and more pro-cyclical industries are expected to benefit from a rebalancing of supply and demand. In a volatile market environment, low-volatility carry may be relatively more defensive. Over the medium term, we recommend focusing on two main themes:

1) Growth driven by prosperity: In How Can Growth Style Get Out of Its Independent Rally?, we proposed that in an unfavorable external macro environment, industries with sufficiently high prosperity can achieve a hedge effect—allowing high growth at the company-level (the numerator side) to offset the drag from weakness at the denominator side (macro/market side). As AI gradually realizes a business-model closed loop and delivers earnings growth, AI-related infrastructure segments such as optical communications and PCB, as well as upstream-related materials, still have relatively strong certainty of high prosperity this year. After many companies completed dense BD (business development) transactions for innovative drugs last year, more companies in 2024 have entered the stage of clinical data verification, making them worth focusing on from a bottom-up perspective. Liquidity, valuation, and other factors may cause disturbances in the short term, but they are not decisive and do not directly affect the medium-term trend. In the future, the focus of the growth style will still be tracking prosperity.

2) Improvement in the cycle: An increasing number of areas are seeing fundamentals recover from the cyclical bottom. We suggest factoring in geopolitical conditions and the position of the capacity cycle, and focusing on areas where the supply-demand pattern is improving—such as power grid equipment, petrochemical and chemical industry, and construction machinery. At the same time, under geopolitical uncertainty, industries such as oil shipping and minor/non-ferrous metals may benefit relatively more. For industries that rely purely on domestic demand, the recovery progress in fundamentals remains relatively slow and needs further observation.

Source: CICC Point in Focus

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