Chinese equities riding the GPT and AI wave: is it generational buying opportunity, or irrational exuberance?
A review of recent developments in China's AI and semiconductor industry, through the lens of capital markets
Chinese equities secretly outperformed Nvidia and Microsoft, which were expected to be the biggest winners in the GPT wave. How?
While investors in US equities are pondering whether the Nvidia bubble will burst, a basket of Chinese equities has secretly outperformed Nvidia and Microsoft by more than three times. Cambricon Technologies Corporation, a Chinese chip maker, has delivered a whopping 210% return since March, which is three times the performance of Nvidia. Beijing Kingsoft Office, a company providing office collaboration software similar to Microsoft, has also outperformed Microsoft by 4 times since the GPT hype started. The unrealistically impressive returns of Chinese equities have dwarfed those of US stocks, making concerns about "Nvidia bubbles" seem much less worrisome.
How on earth did these stocks reach such a whopping return in just under two months? And, most importantly, are the returns warranted, and can they continue?
Recent enthusiasm for Chinese onshore equities reveals some interesting psychology behind investors. In this article, we will walk you through recent developments in the Chinese AI and semiconductor industries, through the lens of the capital market, and review whether we think the momentum can continue in the long term.
Why do we care about China’s onshore equities?
Before we go on further, we might to address this question first: why do I care? It’s true that China’s onshore equities, or A-shares are not the market of choice for many foreign investors. But we believe you definitely need to pay attention to them. There are 3 main reasons. The short version is the following:
For an investor, no matter you are a momentum trader or value investor, a market with huge retail-driven speculative booms and bust is a good place to make money;
For an industry analyst, understanding where the market is crazy about helps you understand which sector big money is chasing after, and thus be able to thrive;
For a general China-watcher, you could treat A-shares as one of the very few publicized voting / polling mechanisms in China, through which you can gain insights into how those of the Chinese people with money on the table evaluate government directives.
We will send out a more detailed explainer on this topic in a few days, so make sure to subscribe to receive it.
How did Chinese capital market react to the GPT hype?
The hype curve for Chinese equities: Social sentiments precede capital market
In early January 2023, the tech community saw the first wave of enthusiasm for GPT emerge, as evidenced by social media sentiments (the dashed line in the chart). Some tech-focused podcasts began closely tracking the latest developments related to GPT and AGI in the U.S. However, this wave did not receive much attention from the investment community and quickly dissipated. It was not until the second wave of social sentiments peaked in February that capital began flowing aggressively into the stock market.
As discussions about the development and real-world application of ChatGPT continued to make headlines, investors began recognizing the potential of this revolutionary technology and the upside it can bring to the industry. Companies providing AI-driven products and services experienced the biggest and earliest jump. For instance, the E Fund Artificial Intelligence Theme ETF (the green line in the chart) yielded a return of over 40% in just two months.
One interesting observation is that public opinions and discussions precede the reaction of the capital market——there is potential to identify key turning points in the Chinese onshore market ahead of time by closely tracking social media sentiments. The overall shape of the social sentiment curve, somewhat resembling Gartner's curve, shows a large initial wave followed by a rapid decline. The second wave then peaked higher, followed by a relatively stable increase fo attentions fluctuating upward. This is a relatively healthy pattern of attention, as opposed to a sudden rise and fall.
How Chinese AI and semiconductor equities got to this bull stage
Recognizing that GPT and AGI were already in an advanced stage overseas, Chinese investors initially looked to the US market to identify equities that could benefit the most from this trend. The consensus was that the semiconductor industry, led by Nvidia, would emerge as the winner due to the universal demand for computing power across various industries. Consequently, investors shifted their focus back to the semiconductor industry in China, searching for local companies that could provide similar benefits.
However, in early February, the semiconductor industry was in the late stage of a downward cycle. The industry peaked in July 2021 and has been declining ever since. Chip shortages were replaced with concerns over overcapacity and overstock. For instance, at the beginning of 2023, TSMC experienced a decrease in orders and a slowdown in future revenue growth expectations.
As a result, investors were hesitant. While they recognize that the rise of GPT technology would drive demand for semiconductor chips, they believed that the overall slowdown of the semiconductor industry would partially offset the upside potential.
Instead, investors began speculating on companies that provide AI-driven software and solutions. The markets were heavily influenced by the outburst of investors’ enthusiasm. Any company announcing plans to develop GPT applications, however remotely related, saw a flood of funds into their equity. For example, 360 Security Technology (SHA: 601360), the most representative company in this round, experienced a violent surge in its stock price upon announcing that it is also developing GPT applications. Similarly, Beijing Kingsoft Office (SHA: 688111) started its journey to skyrocketing returns after Microsoft announced the launch of Copilot. Investors hoped that Kingsoft would lead a similar revolution in office collaboration solutions in the Chinese market. (Beijing Kingsoft Office mainly generates revenue from office collaboration software similar to the Microsoft Office Suite and online games.)
Looking back at how Chinese AI stocks reached their current bullish stage, it's notable that investors initially focused on whether GPT could be integrated into everyday use scenarios. Investors hoped that the demand for applications would increase enough to drive the demand for chips. Only after software companies showed potential did the semiconductor sector begin to rise alongside them. The CPIC CSI Fully Semiconductor ETF (the blue line in the chart) took off in late February and mid-March.