The next stop after the "new high"

Report Guide

After the tariff conflict, global stock markets have shown a significant synchronized rise, with the more important factor being the global pricing of interest rate cut expectations and the recovery of manufacturing prosperity. The A-shares are not unique in this regard. Investors should understand this broader context rather than getting caught up in the cyclical argument of deposit relocation and "incremental funds." This week, the internal shift from small-cap to large-cap growth continues, and looking ahead, the realization of profit improvement expectations will be the main driver of the market in the next phase. The onset of the interest rate cut cycle will also accelerate the upward trend of manufacturing investment, further reinforcing the characteristic of manufacturing being stronger than services, and physical assets will benefit.

Summary

■ Jump out of the cyclical argument of "fund-driven" and view the A-shares rebound from a global perspective.

After the tariff conflict in April, global stock markets have actually seen a significant rise, with the indices of Japan, South Korea, and Vietnam even outperforming A-shares. The rise of A-shares is not unique; "incremental funds" are just the icing on the cake. More importantly, the global market is pricing in two major macro narratives: first, the tariff disturbances are gradually weakening, and manufacturing prosperity is recovering; second, starting from May, expectations for interest rate cuts have been heating up, accelerating in August. Therefore, the strong performance of A-shares since August and even this week is partly due to the sensitivity of downstream demand from Chinese companies to global manufacturing prosperity. This upward revision of prosperity expectations is driving A-shares to outperform other major national indices (except Vietnam), with the highest prosperity in the export structure of A-shares led by the overseas computing power chain. On the other hand, this week, the weakening of the Federal Reserve's interest rate cut expectations and Trump's pressure on the semiconductor industry led to a pullback in U.S. tech stocks and related Japanese and Korean stocks. However, for A-shares, due to the lack of dependence on a single market for external demand and the continuous emergence of industrial policies for internal demand, it has shown an "independent market."

■ Current market status: Accelerating industry rotation and "high-cut-low" in individual stocks.

Since the tariff conflict in April, the TMT + military industry sectors have seen the highest gains, and the overall valuation at the industry level has now reached a historically high level. The median valuation of individual stocks has also reached a historical high, and the differences in valuation percentiles among individual stocks are continuously narrowing. Currently, within the growth track, only the pharmaceutical industry and the ChiNext index still maintain significant differences in individual stock valuation percentiles, which may be the next direction for "eliminating undervaluation." With the overall limited valuation expansion space in the entire market, the speed of industry rotation has accelerated since last week, showing a continuous shift from small-cap growth represented by the CSI 2000 to large-cap growth represented by the ChiNext index.

■ Changes are emerging: Looking at the future drivers of the market from the new index highs.

Due to the low prosperity of most weighted assets still being at low valuation levels, the realization of profit improvement expectations is clearly the main driver of the market in the next phase. After this year's "anti-involution," the lower limit of corporate net profit margins has been confirmed (February 2025). On a macro level, the profit space represented by PPI-PPIRM is also being repaired. As of July, the electricity consumption of the secondary industry has been recovering for five consecutive months. In other words, the repair of "volume" and "profit" has continued throughout the second quarter, and the currently published mid-term reports can to some extent corroborate the diffusion of profit improvement Looking ahead, the opening of the interest rate cut cycle may accelerate the aforementioned improvements. In August, against the backdrop of significantly rising interest rate cut expectations, both the Eurozone and U.S. manufacturing PMIs exceeded expectations. Historically, the easing of financial conditions will strengthen the characteristic of manufacturing outperforming services. Under this characteristic, the physical consumption per unit of GDP will significantly increase, and the demand for physical assets will receive a tailwind. Secondly, manufacturing investment under the "supply chain security" demands in Europe and the U.S. may become the main line in the next phase, replacing AI investments that have seen high growth for two consecutive years and are diverging from the growth trend of the operating cash flow net increase of tech giants. A global pricing watershed is emerging: shifting from AI investments driven by the cash flow of giants to broader manufacturing investments brought about by declining interest rates.

■ Next Stop: Manufacturing Cyclicality

As the market reaches a 10-year high, investors should not fall into the self-referential argument of "deposit migration." We recommend seeking to position in areas with the greatest marginal improvement in fundamentals for the next phase. After the Jackson Hole meeting this Friday opened the window for a September interest rate cut, the outlook for a recovery in manufacturing prosperity has become clearer. Moreover, due to differences in sensitivity to interest rate declines, the investment main line may also switch from cash flow-driven AI investments to credit-driven traditional manufacturing investments. In this regard, our recommendations are: First, under the recovery of overseas manufacturing, physical assets will receive a tailwind (industrial metals (copper, aluminum, steel, basic chemicals), as well as capital goods (engineering machinery, specialized machinery, mechanical components, heavy trucks) under accelerated investment). In the medium to long term, attention should be paid to opportunities arising from the increase in physical consumption on both the investment and consumption sides due to industrial chain restructuring. Second, the long-term asset side of insurance will benefit from the bottoming of capital returns, followed by securities firms. Third, after profit recovery, opportunities will also emerge in domestic demand-related sectors. The CSI 300, representing large-cap blue chips, has not yet outperformed the ChiNext, but has begun to outperform the CSI 2000 in the recent style switch. The diffusion of the market has just begun, and the repair of A-share heavyweight stocks has just started, with a focus on: food and beverage, power equipment. Additionally, this week, due to the impact of the Fed's interest rate cut expectations, the overnight HIBOR has risen sharply, which has exerted some pressure on Hong Kong stocks. Considering that a September interest rate cut may have become a foregone conclusion, and given that Hong Kong stocks have significantly retraced their excess relative to A-shares this year, the A-H market will return to a unified starting line, and changes in corporate profits will become the driving force behind the performance differences between the two markets.

Risk Warning:

Domestic economic recovery may fall short of expectations, and overseas economies may experience significant downturns.

Table of Contents

1. Jumping Out of Liquidity Determinism: A Global Perspective on A-share Rebound

2. Switching in the Market: From Small Caps to Large Caps, Accelerating Sector Rotation

3. Changes Are Emerging: Looking at Future Market Drivers from New Index Highs

3.1 Improvement in Fundamentals Spreading

3.2 The Opening of the Interest Rate Cut Cycle May Shift the Focus of Investment

1. Next Stop: Manufacturing Cyclicality

2. Risk Warning

Main Text

1. Jumping Out of Liquidity Determinism: A Global Perspective on A-share Rebound

This week (20250818-20250822, same below), the SSE Index broke through 3,800 points, continuing to set a 10-year high. From the perspective of major global stock indices, A-shares indeed exhibited an independent market this week. However, looking at the longer term, since the tariffs in April, global stock markets have shown significant increases, with even the indices of Japan, South Korea, and Vietnam outperforming A-shares The rise of A-shares is not unique, which also means that the current rise of A-shares is not solely driven by "an endless influx of incremental funds." More importantly, global markets are pricing in two major macro narratives: first, after Trump announced reciprocal tariffs, global stock markets were significantly impacted, but just 13 hours after the tariffs took effect, Trump announced a suspension of tariffs on most economies, leading to a notable recovery in global stock markets; second, since May, the market has gradually begun to price in interest rate cuts within the year. At the same time, TACO trading has consistently run through the market; since August, expectations for interest rate cuts have significantly increased, with the anticipated timing for cuts being moved up to September. Viewing the rebound of A-shares from a global perspective, one will not be simply trapped in the logic of deposit migration; rather, the changes in the driving logic since April may be the core of the market's future.

Therefore, the strong performance of A-shares since August and even in the middle of this week comes from, on one hand, China's advantages in the global industrial chain, making downstream demand for enterprises more sensitive to potential investment increases. This upward revision of economic expectations is driving A-shares to outperform other major national indices (excluding Vietnam), with the leading sectors being those in the computing chain with the highest export growth; on the other hand, this week, the weakening expectations for a Federal Reserve interest rate cut and Trump's pressure on the semiconductor industry have led to a pullback in U.S. tech stocks and Japanese and Korean stocks closely related to the U.S. chip industry. However, for A-shares, due to the lack of dependence on a single market for external demand and the continuous emergence of domestic demand industrial policies, they have shown an "independent market."

2. Market Switching: From Small Cap to Large Cap, Accelerated Sector Rotation

In the rapid upward movement of the market, TMT+ military industry has almost completed the "elimination of undervaluation." Although the speed of sector rotation in the market is accelerating, there is a constant hope to find low-position directions in the most "profitable" tracks, but the space is limited. Since the tariffs, the TMT+ military sector has seen significant gains, and the overall valuation at the industry level has now reached historically high levels. The median valuation of individual stocks has also reached historical highs, and the differences in valuation percentiles among individual stocks are continuously narrowing, reflecting the market's efforts to find low-position stocks in the "core high prosperity" tracks. Since last week, there has been a continuous shift from small-cap growth represented by the CSI 2000 to large-cap growth represented by the ChiNext, with the industry also showing a "high cut low" trend Characteristics are manifested in the accelerated speed of industry rotation. Currently, under the differentiation of A-shares, the switchable directions within the growth track may lie in pharmaceuticals and the ChiNext Index, as their median valuations are relatively low, and there is a significant disparity in individual stock valuations, making it easier to find undervalued stocks.

3. Changes are emerging: Looking at the future drivers of the market from the new highs of the index

3.1 The improvement of fundamentals is spreading

As we mentioned in last week's weekly report, the space for stock prices to continue to run ahead of fundamentals has become limited. Further opportunities in the market will exist in the significant deviations of internal pricing. Most weighted assets, constrained by low prosperity, are still at low valuations; therefore, the realization of profit improvement expectations is clearly the main driver of the market in the next phase. After this year's "anti-involution," the lower limit of corporate net profit margins has been confirmed (February 2025). On a macro level, the profit space represented by PPI-PPIRM is also being repaired. Additionally, as of July, the year-on-year growth rate of electricity consumption in the secondary industry has been restored for three consecutive months. In other words, the repair of "volume" and "profit" has continued throughout the second quarter, and perhaps the mid-term reports will validate the improvement in profits. In Q1 2025, the arithmetic average of the overall A-share non-financial ROE is significantly higher than that of the same period in 2024, while under the overall method, it is similar to that of the same period in 2024. If calculated based on the listed companies that have already announced mid-term reports, the overall method shows that the non-financial ROE of the entire A-share has begun to outperform that of the same period in 2024, similar to the conclusion under the arithmetic average method, indicating that the profit improvement in Q2 2025 has spread among listed companies, not just existing in a few companies

The diffusion of profits comes from the pull of external demand, especially the upward trend of overseas investment. From January to July this year, China's export growth rate remained at a high level, and the export price index turned positive in June. From a structural perspective, the main drivers are two investment chains: first, AI-related investments, where the export of integrated circuits, printed circuits, batteries, and optical cables required for computing power infrastructure has grown rapidly; second, traditional manufacturing-related investments, where the export of specialized machinery, construction machinery, and mechanical components needed for capacity building has also grown rapidly.

3.2 The onset of the interest rate cut cycle may shift the focus of investment

On Friday evening, Federal Reserve Chairman Jerome Powell released a clear "dovish" signal at the Jackson Hole central bank annual meeting: "The shift in risk balance may mean a need to adjust policy." This indicates that the Federal Reserve is rebalancing between inflation risks and employment market risks, with concerns about inflation temporarily lower than those about the employment market. First, there is a temporary retreat in inflation risks: the Federal Reserve believes that the impact of tariffs on prices is "one-time," although this does not mean that the one-time effect can be fully reflected. The paths through which tariffs affect inflation mainly include two: first, workers demand higher wages due to rising prices, leading to a "wage-price" upward spiral, but currently, due to greater downside risks in the employment market, the likelihood of this scenario occurring is low; second, tariffs affect inflation expectations, and currently, long-term inflation expectations remain relatively stable and consistent with long-term inflation targets. Meanwhile, risks in the employment market are accumulating: on one hand, the number of people continuously receiving unemployment benefits has reached the highest level since November 2021, and the number of initial claims has also risen significantly in the past month; on the other hand, since the beginning of this year, both the supply and demand sides of the labor market have significantly slowed down, indicating that the employment market is deteriorating After Powell's speech, the probability of a rate cut in September significantly increased, and various risk assets (U.S. stocks, commodities, etc.) also rose sharply.

The Jackson Hole meeting has completely opened the window for a rate cut in September. Looking ahead, there are three impacts: (1) A rate cut will further promote global investment and manufacturing production. In August, under the backdrop of significantly increased rate cut expectations, the U.S. manufacturing PMI preliminary value reached 53.3, far exceeding expectations (49.7), marking the highest level since May 2022. The Eurozone manufacturing PMI preliminary value also rose to 50.5, the first time it has been above the expansion-contraction line since June 2022. Both the U.S. and Europe currently show characteristics of manufacturing outperforming services. With the Federal Reserve's rate cut, financial conditions will further ease, and the world is expected to officially enter a cycle where manufacturing outperforms services. When global manufacturing outperforms services, the physical consumption per unit GDP will significantly increase, making physical assets relatively advantageous.

(2) In terms of manufacturing investment, it is worth observing that overseas manufacturing investment may replace AI investment as the new main line. This is because, in the past, the capital expenditure intensity of tech giants (the ratio of capital expenditure to operating cash flow) was often positively correlated with the growth rate of their operating cash flow. However, starting from 2025, the AI investment intensity of tech giants continues to rise in a high-interest-rate environment, and there has been a significant divergence from the growth rate of their operating cash flow. This is supported by the "turning positive" 10Y-2Y yield spread, which may reflect the tech giants' "overdraft" of future rate cut expectations and economic "soft landing" expectations in their AI investment decisions. In contrast, traditional manufacturing investment related to supply chain restructuring relies on government subsidies (similar to defense spending) on one hand, and the manufacturing prosperity itself is more dependent on credit issuance, making it more sensitive to low funding costs.

(3) After this round of rate cuts, is inflation more likely to become a "problem" again compared to past cycles, or the opposite? Historically, when U.S. commodity inflation is strong, it often drives U.S. manufacturing investment, thereby increasing supply to alleviate inflationary pressures. Currently, both the U.S. and Europe have made supply chain security a policy goal, placing greater emphasis on supply capacity than ever before. From this perspective, monetary policy is unlikely to be constrained However, as mentioned earlier, the current contraction in the labor market may make service inflation more likely to catch up to or even exceed goods inflation compared to the past, which is a source of future fluctuations in monetary policy.

4. Next Stop, Cyclical Manufacturing

As the market reaches a 10-year high, the overall space for valuation expansion is already quite limited. Investors have two options: one is to continue adopting a "high-low switch" strategy, spreading from the "most profitable" sectors to "suboptimal" growth sectors. After comparing growth industries and styles, we found that the pharmaceutical industry, as well as the large-cap growth represented by the ChiNext, still have selection space for low-position stocks, with the high-weight industries mainly being power equipment and pharmaceuticals;

The other option is to look for the next stage with the greatest marginal improvement in fundamentals for early layout. In our view, the current upward movement of A-shares is priced in the recovery of global manufacturing (including AI investment and traditional manufacturing investment). After the meeting on Friday opened the interest rate cut window for September, the outlook for manufacturing has become clearer. Additionally, due to different sensitivities to interest rate declines, the investment theme may also shift from AI investment to traditional manufacturing investment. In this regard, our recommendations are: first, physical assets that will benefit from the recovery of overseas manufacturing and will see long-term growth in consumption (industrial metals (copper, aluminum, steel, basic chemicals), as well as capital goods (engineering machinery, specialized machinery, mechanical components, heavy trucks) under accelerated investment); second, the long-term asset side of insurance will benefit from the bottoming of capital returns, followed by brokerages; third, after profit recovery, opportunities will also emerge in domestic demand-related fields. The large-cap blue-chip index, CSI 300, has not yet outperformed the ChiNext, but it has begun to outperform the Guozheng 2000 in the recent style switch, and the market's diffusion has just begun In addition, since June, the exchange rate of the US dollar against the Hong Kong dollar has surged, triggering the weak-side convertibility guarantee level for the Hong Kong dollar multiple times, which has suppressed liquidity in the Hong Kong stock market. This week, due to the impact of the Federal Reserve's interest rate cut expectations reversing, the overnight HIBOR has risen significantly, leading to adjustments in the Hong Kong stock market. However, looking ahead, as a rate cut in September seems to be a foregone conclusion, this suppression will ease, and the Hong Kong stock market is expected to return to a state where pricing is driven by fundamentals.

Risk Warning

Domestic economic recovery is weaker than expected: If subsequent domestic economic data weakens beyond expectations, the assumption in this article regarding the stabilization and recovery of corporate capital returns will no longer apply.

Significant downturn in the overseas economy: If the overseas economy declines beyond expectations, the global manufacturing resonance recovery may pause, and demand for physical assets will also slow down.

Authors of this article: Móu Yīlíng, Wáng Kuàngwěi. Source of this article: Yīlíng Strategy Research, Original title: "The Next Stop After the 'New High' | Guojin Strategy."

Risk Warning and Disclaimer

The market has risks, and investment requires caution. This article does not constitute personal investment advice and does not take into account the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. Investment based on this is at one's own risk