Risks in store for ChiNext market

Overvaluation, possible resumption of IPOs may affect index: insiders

Securities insiders have warned of risks for ChiNext, China's Nasdaq-style market, which has outperformed since the end of last year.

The index closed at 1,051.65 points on Monday, up 65 percent from Dec 7.

"ChiNext is expensive relative to growth, and has become crowded," said Hong Hao, managing director and chief strategist at BOCOM International Holdings Co Ltd.

ChiNext, the Shenzhen Component Index and the Shenzhen SME Board Index make up the three core indices reflecting the performance of stocks listed on the Shenzhen Stock Exchange.

The ChiNext board, which started trading on Oct 30, 2009, is home to high-tech companies and those with high growth potential.

So far, 355 companies are listed on the board, with a total market capitalization of 1.19 trillion yuan ($193.4 billion).

In the first quarter of 2013, more than 50 percent of mutual funds were allocated in small caps, including ChiNext, according to a report released by BOCOM International on Monday.

The report said ChiNext's earnings growth is about four times that of the main board, but it is about six times as expensive.

"When everyone is holding the same tiles in mahjong, no one could win. This is the predicament that we are facing," said Hong.

Li Yizheng, vice-president of China Securities Co Ltd, said: "Funds favor the ChiNext market because it is small and has investment value, and the market may have some risks."

The market has reacted positively to the expectation that the new leadership may take more measures to push forward the country's economic reform.

"But our view has been that reform, though a long-term positive, can be a short-term drag, " Li added.

When China initiated important changes in the past, such as ending its two-track commodity pricing system in 1988, restructuring the State-owned enterprises in 1998 and joining the World Trade Organization in 2001, the Chinese market underperformed, the report showed.

"The reason is that any reform will involve redistribution of interests, and thus will introduce an element of uncertainty. Simply put, the quest for reform and the wish for an immediate strong market recovery cannot be fulfilled at the same time," said Hong.

The report added that whenever ChiNext's relative valuation is this high or higher, the overall market underperforms if selling pressure spills over.

The market can manage a technical bounce amid strong foreign fund inflows, but it won't last as long as economic growth continues to decelerate.

"The resumption of IPOs will likely prick the ChiNext bubble," said Hong.

Li said fluctuations will depend on the degree to which IPOs resume. If the number of companies getting listed on the market is large, the market may drop.

But Yi Jigang, president of Beijing-based private-equity firm Orient Jiyi Investment, showed more confidence.

"Many Chinese technology stocks on the ChiNext market perform very well because their businesses are good and the Chinese market is large and of great potential," he said.

Yi added that there are limited means of investment in China, and investing in good-quality stocks is a wise choice. Besides, the China Securities Regulatory Commission's strict examination of the stock market since the end of last year will boost investors confidence, he said.