Despite the stabilization in China's macro aggregates and the H-Share market, we continue to see a surprising lack of confirming indicators in the domestic market. A sharp rise in monetary aggregates is likely required for any sustainable equity market recovery – our analysis of the PBoC balance sheet suggests this will be a challenge. We will be watching the net foreign asset number on the PBoC balance sheet very carefully. “Sterilization” funds are pretty much gone. Historically, the net lending to government has been de minimis. So, unless a huge injection of PBoC funds to the banking system (à la ECB) is on the cards, it is tough to see where the increase in the monetary base is going to come from. Consequently, we worry about the lack of corporate pricing power given the links between base money growth and pricing power.

Five risks
First, we think the key risk is the PBoC balance sheet in China. Second, if our benign view of a reduction in economic policy uncertainty is wrong, our optimistic view on equities is also likely to be wrong. Third, our optimism about Asian margin improvements (except China) could be challenged by weaker economic growth globally, and a decline in the terms of trade. Fourth, political tensions are rising in Asia, as the various countries are re-positioning themselves in the evolving geo-political landscape. The probability of errors and miscalculations is rising. Fifth, the creditor-debtor debate in Europe and the loss allocation that this entails could heat up again.