Recent share price weakness reflects investors’ concerns onmarket sentiment, capital control, and asset quality
GTJAI has been mitigating these pressure by diversifyingrevenue sources and enhancing risk management
Maintain Buy with revised TP of HKD3.2 (was HKD3.5); a keybeneficiary of China’s increasing outbound investment
Overdone concerns. Recent share price performance of Guotai Junan Int’l (GTJAI) hasbeen weak: the stock is up only 2% y-t-d versus a 14% rally in the Hang Seng Index.We believe this reflects three main issues: (1) lower-than-expected stock marketturnover after the SZ-HK Stock Connect launch, (2) concerns on control over crossbordercapital flows, and (3) uncertainties on asset quality and impairment charges,especially with implementation of IFRS9 approaching. However, we believe investors’concerns are overdone, as the impact on near-term profitability is manageable, andwe are positive on long-term structural growth:
Market turnover. Cash average daily turnover (ADT) recovered from 68bn in2H16 to c.74bn in 4M17. Besides this, GTJAI has been diversifying its revenuesources by serving clients’ investment demand for asset classes other than stock,with the revenue contribution from brokerage down from 45% in 2011 to 16% in2016. In the future, we expect ADT to reach a “new normal” level of aroundHKD120bn as Chinese investors’ participation in Hong Kong rises.
Capital control. While tightened capital control slows the company’s accumulationof clients’ assets, it increases investors’ demand for leveraging and offshorefundraising, supporting growth in the financing, structured product and debtunderwriting businesses – combined revenue from these three segments rose42% in 2016 and is expected to see solid growth this year. Our FX strategistsbelieve capital account liberalisation and RMB internationalization remainregulators’ long-term commitment, and recent news indicates modest outflowscould encourage regulatory easing.
Asset quality. GTJAI recognized over HKD100m in impairment charges last year,and the implementation of IFRS9 could lead to further provision, which howeverhelps to build risk buffer. Besides, GTJAI has been adjusting its collateralportfolio towards blue-chip stocks, as reflected in higher loan-to-collateral ratio.Forecasts and valuation. We lower our profit forecasts by 7% in 2017e and 14% in2018e mainly to reflect lower forecasts for brokerage fee and margin loan growth, andwe introduce our 2019e forecasts. Based on a PB-ROE valuation approach, we lowerour target PB multiple to 2.5x (from 2.6x) and cut our TP to HKD3.2 (from HKD3.5).