(The views expressed here are those of the author, the founder

and CEO of Emmer Capital Partners Ltd.)

By Manishi Raychaudhuri

HONG KONG, Sept 22 (Reuters) - China's onshore equity

markets are booming, outperforming many of their developed

market counterparts this year. But whether this is the beginning

of a true Chinese equity boom or yet another short-lived bubble

will likely depend on government stimulus and corporate

discipline.

Over the past year, major Chinese onshore equity indexes

have outperformed their U.S. counterparts. Zoom in on the

performance from mid-July, and the contrast becomes starker.

The Shanghai Composite and CSI 300 are up

9% and 12%, respectively, compared to 6% for the S&P 500.

In this period, these onshore Chinese indexes have even

outperformed the Hang Seng Index, which has had a very

strong year.

The rally has a few points of vulnerability, however.

For one, it has been driven by a handful of industries. Only

six of the 15 sectors in FactSet's China Market Index have

outperformed over the last year, with particularly outsized

gains in technology services and electronic technology, up 98%

and 81%, respectively.

Investors are clearly focusing on dominant mega-themes, most

notably semiconductors, the artificial intelligence supply chain

and industrial automation.

Over the past year, this enthusiasm has been exemplified by the

almost 500% rally by Cambricon Technologies, which

has been referred to as "China's Nvidia," and the more than 80%

gain by industrial robot titan Shenzhen Inovance.

The narrow breadth of the rally presents a meaningful risk,

though one could say the same thing about the S&P 500, which

remains a lot more expensive than Chinese indexes.

DOMESTIC DRIVERS

There are also reasons for optimism.

This rally has been driven by domestic buyers, who still

dominate the onshore China market, and these investors appear to

have plenty of room to increase their equity allocations.

Stocks only account for about 5% of an average Chinese

household's wealth, with the bulk of their assets in property

(60%) and cash and bank deposits (25%).

Equities are looking increasingly attractive, however, as the

property market continues to weaken and interest rates on

deposits continue to nosedive.

In the first seven months of 2025, Chinese investors rushed into

the Hong Kong stock market through the Southbound Stock Connect.

Now, they are turning their attention to the onshore market and

reallocating from fixed income investments, illustrated by

China's rising government bond yields.

Insurance companies are also joining in. In April, the

government raised the cap on equity investments by insurers,

aiming to create a pool of "patient capital" to support local

stock markets.

Insurers reportedly ploughed $90 billion into Chinese markets in

the first half of 2025, but still have only 8.5% of their assets

in equities.

This all suggests that there's considerable dry powder left

among both households and insurers.

CAUTIONARY NOTE

Cautionary noise is building, however. Banks and regulators, in

particular, are sounding the alarm, perhaps because the memory

of 2015's sharp market spike and resounding crash is still fresh

in everyone's mind.

On that occasion, the money investors borrowed to buy stocks,

termed margin financing, reached 2.27 trillion yuan ($360

billion). Current outstanding margin financing has already

crossed that peak, igniting fears of a similarly chaotic

unravelling of the bull market.

To prevent such a scenario, China's "National Team" led by

Central Huijin Investment, has promised to stabilise the market

when needed.

But, worryingly, the fundamental drivers of this rally are

beginning to look tired. The prominent sectors that lifted the

market appear fully valued, if not expensive, relative to their

expected earnings growth.

Indeed, the price-to-earnings multiples of equities in the

technology services and electronic technology sectors are

significantly higher than their forecast EPS growth, a

concerning trend.

STIMULUS AND DISCIPLINE

For the Chinese bull market to persist, therefore, corporate

fundamentals and earnings will need to improve. The steady

decline in the return on equity for Chinese corporates over the

past 15 years is certainly not a recipe for an ebullient stock

market.

The primary reason for such diminishing returns is margin

compression driven by disorderly competition - an issue that is

well known to policymakers.

The Chinese government's "anti-involution" campaign to

curtail such competition may yield temporary results, but the

more sustainable solution arguably lies in boosting domestic

demand. If the customer base grows for every company, then the

need for such intense competition would diminish.

That's easier said than done though. As long as the property

sector languishes, trade uncertainties linger and the employment

situation stays lacklustre, domestic consumption sentiment will

likely remain depressed.

Moreover, the excess production in some industries has been

massive, which won't be easily unwound even if domestic

consumption improves. Companies may need to be much more

disciplined about adding capacity and making pricing decisions,

even if that results in a temporary loss of market share.

Pricing and capacity discipline should put a floor under

ROEs by helping margins stabilise.

The government could also intensify its efforts to spur

consumption and reduce "excessive competition" and the

overproduction weighing on profits. However, the significant

amount of fiscal and monetary stimulus that China has delivered

in the last year has only had a limited impact on a few retail

segments at this point, so Chinese policymakers may need to

think differently, as we are starting to see with the

anti-involution efforts.

In short, there are plenty of reasons to believe China's

equity boom will keep chugging along. But risks to the rally are

building.

(The views expressed here are those of Manishi Raychaudhuri,

the founder and CEO of Emmer Capital Partners Ltd. and the

former Head of Asia-Pacific Equity Research at BNP Paribas

Securities).

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(Writing by Manishi Raychaudhuri; Editing by Anna Szymanski and

Jamie Freed)