Cheung Kong Graduate School of Business2024-01-09
Amid a general slowdown in global economic growth, India** has completed "contrarian growth" and has become the Asian market favored by international investors, with an increase of 17% in 2023. A-shares, on the other hand, performed poorly, showing a trend of "falling endlessly" in the same period.
India and the Chinese population are close to each other and are both large developing countries. However, compared to India, China has taken a very different path. What is the reason for the huge gap between the two countries?Why can't China outperform the United States and India?
Cao Huining and Ouyang Hui, professors of finance at Cheung Kong Graduate School of Business, and Ye Dongyan, a research scholar, said in a recent article that China's A-share index earnings grew faster than that of the U.S. and Indian stock indexes, but the decline in the valuation of A-share companies dragged down the index**. In addition, illegal activities such as financial fraud can also make investors lose trust in **, thereby reducing the valuation of listed companies.
Author |Cao Huining, Ouyang Hui, Ye Dongyan.
* |Financial Magazines.
Recently, India's continuous development has attracted the attention of global investors. From the beginning of 2009 after the end of the financial crisis to 15 December 2023, India's NIFTY50 index fell by 621 times, beating the S&P 500 index by 422 times, 2 times the German DAX index48 times, making it one of the best performers in the world.
Not only that, in the past 15 years from 2009 to the present, the NIFTY50 index has only been in 2011 and 2015. 06%, and the other 13 years are all in **.
At the same time, A-shares give the impression of "falling endlessly". Since the beginning of 2009, the CSI 300 Index has gained 084 times. In 15 years, 8 years have been **, and in the last three consecutive years, respectively. 69%。
As the two most populous and bordering developing countries, it's easy to compare China and India** side by side. Are A-shares underperforming as India**?What is the reason behind it?This article will analyze this.
India **continues**.
There are two major exchanges in India: the Mumbai Exchange (BSE) and the National Exchange (NSE). The former was founded in 1875 and the latter in 1992, with both exchanges headquartered in Mumbai.
According to data from World-Exchanges and CEIC, as of the end of October 2023, the total market capitalization of Mumbai and the National Exchange was 374 trillion dollars and 3$71 trillion, ranking at the New York Stock Exchange (25.).$30 trillion), NASDAQ (19$97 trillion), the Shanghai Stock Exchange (6$40 trillion), the Tokyo Stock Exchange (5$47 trillion), Shenzhen Stock Exchange (4$68 trillion) and the Hong Kong Stock Exchange (3$93 trillion) behind.
The sensex30 index is the representative index of the Mumbai Stock Exchange and includes 30 of the largest, most liquid and financially sound companies. The index was released on January 1, 1986 at 100 points on April 1, 1979, and closed at 71483 on December 15, 202375 points.
The representative index of the National Exchange is the NIFTY50, which contains 50 actively traded blue chips. The NIFTY50 index was released on April 22, 1996, based on 1000 points on November 3, 1995, and closed at 21456 on December 15, 202365 points.
The SenseX30 and NIFTY50 constituents** account for about 40% and 60% of the total market capitalization of Mumbai and the National Exchange, respectively, while the CSI 300 and S&P 500 constituents** account for about 60% and 80% of the total market capitalization of A-shares and U.S. stocks.
Table 1 shows the annual return statistics of major stock indices in China, the United States and India. From the beginning of 1993 to December 15, 2023, the Shanghai Composite Index fell by 23 times, while the S&P 500 and Dow Jones Industrial Average are about 10 times, and the Nasdaq is 209 times, the sensex30 index is **285 times. On average annual returns, the A-share index is no worse than several other indices. The average CSI 300 yield is the highest at 17At 54%, the Shanghai Composite Index and ChiNext Index are not as good as the Nasdaq, NIFTY50 and SenseX30 Indexes, but they are higher than the S&P 500 and the Dow Jones.
In the ** year, the average return of the three A-share indices was higher than that of several other indices. In the ** year, the average decline of the A-share index was about 20%, which is comparable to the NASDAQ, NIFTY50 and SENSEX30 indexes. The reason why the cumulative increase of the A-share index is not as good as that of the other five indices is that the number of years is small, and the years of ** and ** are comparable, accounting for about half of each, while the US and India** indices are ** in about three-quarters of the years.
Table 2 calculates the annualized return, annualized volatility, sharpe ratio, and maximum drawdown of each index held over different time periods** using weekly prices. The annualized return of the A-share index is lower than that of the U.S. and India** indices, and the volatility is higher than that of the A-share index, so the sharpe ratio of the A-share index is lower than that of other stock indices. In terms of maximum drawdown, the A-share index has also performed poorly than other indices. For example, the maximum drawdown of the Shanghai Composite Index is -77 over the entire sample period73%, which is the largest among all indexes, and the maximum drawdown of the CSI 300 and ChiNext is only lower than that of the Nasdaq index.
Judging from the recent data from 2013 to December 15, 2023 for more than ten years, the annualized return of the CSI 300 and the Shanghai Composite Index is only. 59%, while the Dow, S&P 500, NIFTY50 and SENSEX30 have annualized returns between 10% and 13%, and the Nasdaq has an annualized return of 1610%。The annualized rate of return of the GEM index is 931%, but its volatility is much higher than other valuations, so its sharpe ratio is also significantly lower than that of the US and India** indices.
Compared with the U.S. and Indian stock indexes, although the A-share index rose sharply at the time of **, it had fewer years, so the cumulative yield was low, the annualized rate of return was also low, and the volatility was large, the sharpe ratio was low, and the maximum drawdown was also high. From an investment point of view, the A-share index is not a good target.
Falling valuations weighed on A-share performance.
*The change in the index is made up of two parts: earnings and valuation. Figure 1 calculates the cumulative return, earnings per share (EPS) and price-to-earnings (PE) ratio of the CSI 300 Index using quarterly data from Q1 2005 to Q3 2023. For comparison, let's make the EPS at the beginning of 2005 equal to 1. Figures 2 and 3 are the results of the S&P 500 and NIFTY50 indices, respectively.
As of the third quarter of 2023, the cumulative return of the CSI 300 index is 292%, while the current EPS has increased by 378% compared to the EPS in early 2005, and the growth of the index has lagged behind the growth of the EPS, indicating that the poor performance of the CSI 300 index is due to the decline in valuation, which can be clearly seen in Figure 1. Since about the end of 2011, the CSI 300 has underperformed its EPS for most of the time.
As of the third quarter of 2023, the cumulative return of the S&P 500 is 260%, and the EPS has increased by 232% since the beginning of 2005. As can also be seen in Figure 2, the S&P 500 is moving in a fairly close relationship with the EPS.
As of the third quarter of 2023, the cumulative return of the NIFTY50 index is 784%, and the EPS has increased by 125% compared to the beginning of 2005. As can also be seen from Figure 3, the ** of the NIFTY50 index is significantly faster than its EPS.
The CSI 300 earnings grew faster than India's NIFTY50, but the valuation of the CSI 300 fell by 20% compared to the beginning of 2005, while the valuation of the NIFTY50 rose by 293%, so the CSI 300 was significantly behind the NIFTY50.
While the CSI 300 earnings rose 378% over the entire time period from early 2005 to the third quarter of 2023, outperforming the S&P 500 (223%) and India's NIFTY50 (125%), the CSI 300's earnings rose by only 16% compared to the end of 2017, while the S&P 500 and NIFTY50 rose by %. In other words, the growth of CSI 300 index earnings basically came from before 2018, and since 2018, earnings have basically not increased. S&P 500 earnings are evenly distributed over time, with most of the growth in NIFTY50 earnings coming from 2017 onwards.
Earnings affect the index in two ways:
One is the earnings level itself, and the other is that earnings growth will affect the valuation of the index.
The CSI 300 earnings have barely grown since 2018, which will undoubtedly weigh on the index's valuations.
How to increase the valuation of A-shares.
If the regulation is lax and financial fraud is widespread, the earnings of listed companies will be "inflated", so the valuation of A-shares may only correspond to the "inflated" earnings to be low, while its actual valuation is not low. On the other hand, the prevalence of illegal acts such as financial fraud in ** will also make investors lose trust in **, thereby reducing the valuation of listed companies.
Financial fraud of A-share listed companies is frequent, and the penalties they receive are often "understated".
On December 3, 2023, *ST Tai'an announced that it had received the "Advance Notice of Administrative Punishment" issued by the Guangdong Securities Regulatory Bureau, and it was found that the company had inflated profits by a total of 42.9 billion yuan, and there are false records in the relevant periodic reports. The Guangdong Securities Regulatory Bureau intends to decide to order *ST Taian to make corrections, give a warning and impose a fine of 4.2 million yuan;A number of relevant responsible persons were given warnings and fines.
Guannong Co., Ltd., an A-share listed company, has continuously falsified its financial results in its 2021 annual report and 2022 semi-annual report, inflating its operating income by more than 2 billion yuan, and received a prior notice of punishment from the China Securities Regulatory Commission. Among them, the company was fined 3 million yuan, the then chairman was fined 1 million yuan, and the then chief financial officer and other three responsible persons were each fined 500,000 yuan, totaling 5.5 million yuan.
There are many such examples, such as Oriental Garden, Kangdexin, San'an Optoelectronics, Kangmei Pharmaceutical, etc., and the punishment and financial fraud amount of relevant listed companies and persons involved in the case are seriously mismatched.
In stark contrast, the United States imposes extremely severe penalties on listed companies for financial fraud and other illegal acts.
Enron is an American energy company that operates in natural gas, electricity, and telecommunications. In 2001, Enron was suspected of financial fraud and inflated profits by $600 million. This was followed by the severe punishment of Enron by the United States.
Enron's chief executive was sentenced to 24 years in prison. In addition, Arthur Andersen, one of the world's top five accounting firms responsible for the audit, also went bankrupt as a result of the incident. The three major investment banks responsible for Enron's IPO — Citigroup, JPMorgan Chase and Bank of America — also paid $4.3 billion in damages to victims of Enron's bankruptcy. In addition, investors were awarded $7.1 billion in damages through a class action lawsuit. This judgment is important for the protection of investors' rights and interests, and it shows that the regulator has zero tolerance for financial fraud.
Similar to U.S. stocks, Indian regulators have also imposed severe penalties on listed companies for violations such as financial fraud.
Satyam is an Indian IT services company founded in 1987 and was once one of the largest IT service providers in India.
In January 2009, a serious financial scandal erupted in Satyam, where the company was found to have fabricated billions of dollars in profits and exaggerated the company's assets in its financial reports.
In the wake of the Satyam scandal**, the executives involved went through a series of legal proceedings and penalties. The company's founder and CEO (CEO) were sentenced to seven years in prison and a fine of 50 million rupees (about $700,000), and nine other executives of the company were similarly sentenced.
The Satyam scandal has given impetus to regulators such as the Securities and Exchange Commission of India (SEBI) to regulate listed companies.
Therefore, in order to promote the healthy development of the company and restore investors' trust in listed companies, supervision must be strengthened.
Another aspect of A-shares that is often criticized is that there are not many cash dividends. From 2018 to 2023, for every $1 raised by the U.S. market, dividends (including repurchases) will be distributed to the market for 3$98;For every 1 yuan of financing, the market will receive a dividend (including repurchase) of 086 yuan.
There are three main benefits to cash dividends:
First, it can prove that the company has real gold on the books, and the net profit is not just a book number;
Second, when the company does not have a better investment channel, returning the money to the shareholders to take care of it is an excellent performance of the management
Finally, for the long-term holders of **, there can be cash inflows without selling**. Moderately increasing the proportion of cash dividends, especially for those listed companies that have only raised funds but never paid dividends for many years, can reduce the possibility of financial fraud, and can also bring actual cash inflows to shareholders, which will help enhance shareholders' trust in listed companies.
In addition, the United States and India** also implement strict delisting systems.
There have been two forced "delistings" in the history of the Indian market.
In the first wave of delistings from 2003 to 2004, a total of 1,010 companies were delisted from the Bombay Exchange, accounting for about 17 of its total number of listed companies at the end of 20024%。
In the second wave of delistings from 2016 to 2018, 861 companies were delisted from the Bombay Exchange, accounting for 14 of its total listed companies at the end of 20156%。During the same period, 138 companies were delisted from the National Exchange, accounting for 7 of the total number of listed companies at the end of 20157%。
This initiative fully demonstrates India's zero-tolerance attitude towards bad companies and ensures the overall health of the market.
In 2022, 339 U.S. stocks were delisted, and 419 companies were listed that year. The number of U.S.-listed companies peaked at 8,090 in 1996, and has since declined to around 5,500 in recent years.
In 2022, 428 A-shares were listed and issued, and 42 were delisted, with a delisting rate of less than 1%. At the end of 1999, the number of A-share listed companies was 949, and by the end of 2022, the number of listed companies reached 5,066, with 4,117 new listed companies added in 23 years.
India** also provides investors with a post-delisting compensation mechanism. When a company is delisted, investors can obtain certain compensation through relevant mechanisms, which reduces the investment losses caused by the delisting of the company. Most of the delistings of U.S. stocks are due to privatizations and mergers and acquisitions. Of course, it is not that the number of listed companies in the first class is as small as possible, but the implementation of a strict delisting system can effectively clean up the inferior enterprises in the market, reduce the interference in the market, and create a better investment environment for investors.
Investor confidence affects investors' risk appetite and trading activity. When investor confidence rises, investors' risk appetite will increase, which will increase investment in **, which will undoubtedly push up***In addition, when investor confidence rises, their trading will also be more active, improving the liquidity of **, and will also increase the valuation of **.
Regulators have increased their supervision and cracked down on financial fraud, market manipulation, insider trading and other illegal acts, which will undoubtedly increase the fairness and transparency of the market, increase investors' trust in the market, and boost investor confidence. In addition, the smooth operation of ** will also increase the confidence of investors. One of the main functions of the country's financial stability guarantee** is to stabilize the financial markets, thereby boosting investor confidence.
* volatility often triggers panic, leading to large-scale sell-offs by investors and massive loss of funds in the market, creating a vicious circle. As a market stability tool, Stability Assurance can be purchased to increase market liquidity, stabilize the market, and reverse market sentiment, thereby alleviating market panic and stress. By intervening in the market, stability guarantees** help prevent the occurrence of systemic risks, maintain stable operation, and boost investor confidence.
Summary and outlook:
India** will be a significant risk.
Compared with the United States and India, A-shares are characterized by large increases in time, but less time, violent in a few years, and "endless falls" in other times. The A-share stock index has a low annualized return and high volatility, so the sharpe ratio is significantly lower than that of the US and Indian stock indexes, and the maximum drawdown is not lower than that of other stock indexes.
Valuations of U.S. stock indices have changed little, with the index** largely driven by earnings growth. Earnings growth in India's equity index was modest, with the index** mainly driven by rising valuations. The earnings growth of the A-share index was faster than that of the US and Indian stock indexes, but the decline in valuations dragged down the index**.
Although A-share regulators have been tightening penalties for financial fraud and other illegal acts of listed companies, they are far less severe than those imposed by the United States and India for illegal acts of listed companies, and the effective deterrent to listed companies and their managers is also weak. In order to promote the healthy development of the company and restore investors' trust in listed companies, it is necessary to increase supervision. In addition, the establishment of financial stability guarantees** can stabilize financial markets, thereby boosting investor confidence.
India** has risen for nearly eight consecutive years, and there is no lack of risk behind the heat. One of the big risks comes from the possible instability in India in 2024.
Some analysts believe that India 2024 is a major risk, and if Modi's Bharatiya Janata Party (BJP) fails to consolidate power, it will plummet. There have been similar events in the history of India.
In May 2004, Vajpayee Vajpayee, the founder of the Bharatiya Janata Party (BJP), who had served as prime minister three times, submitted his resignation due to the defeat of the ruling National League for Democracy. As soon as the news came out, India **once **within two days**about 20%. In addition, the valuation of India** has been pushed very high, and foreign investors may find better trading opportunities in other emerging markets in the future after investing more than US$10 billion in India** in 2023.