"Like you I am a China enthusiast and I am sitting with my finger on the buy button, but right now the charts I watch are giving confusing signals. The Hang Seng (HSI) is quite bullish with higher highs and higher lows, the Hang Seng China Enterprises (HSCEI) is quite supportive at the top of its recent trading range, the Shanghai Composite (SHCOMP) is at the bottom of the trading range established since late July and the FTSE Xinhua Bank Index (XA81) looks horrible. Can you shed any light on this or am I just looking at the wrong charts?

"Regards and thanks for the excellent service."

David Fuller's view Thanks for your comments and no you are not looking at the wrong charts.

The lull in China's stock market performance is all about supply, not the economy and certainly not valuations. The impact of this supply has changed valuations and it does not fall equally across all indices.

Much of the supply concerns huge IPOs, mainly by banks. The reason for this is that China provided a very strong monetary stimulus for the economy following the 2008 crash. However China's economy experienced no worse than a temporary period of slower GDP growth before rebounding strongly once again. Too much of the excess stimulus went into property speculation. Determined to rein this in, China raised reserve requirements for banks, so that they could pass a stress test based on a hypothetical decline in property prices of 60%. The only way banks could do this on schedule was by very large, world record public offerings of stock. I have discussed this on many occasions.

This supply is responsible for the Bank Index's underperformance. Bank shares also have a significant weighting in the Shanghai Composite Index. Additionally, the government has released more A-Shares (originally, all companies were government owned) which were not previously tradable. The particularly heavy supply from bank IPOs and also government held A-Shares has been evident since July 2009. These latter offerings are released by schedule and the quantity declines sharply following November 2010, as you can see in a report published by Eoin on September 3rd. You may wish to read at least the Investment Summary on page 3 and see the Table on page 23.

It certainly took me a while to realise the extent of this supply situation but the benefit for subscribers interested in buying China today is that valuations are much more reasonable as you can see from this historic PER chart for SHCOMP, which I have showed before. The message is clear: it has paid to buy China at these historic multiples. Forward multiples are estimated at closer to 11. The HSCEI and HSI Indices have not been weighed down by supply to anywhere near the same extent and I think performance will improve in line with the global trend. You will see why if you look at large-cap individual charts of HSI constituents, such as Hutchison Whampoa.