Following a rapid and significant mid-week correction last week, Hong Kong's stock market has reached new highs again. Alongside the market rally, our constructed Hong Kong sentiment indicator has moderately recovered from panic territory to 31.1, though it hasn't returned to neutral territory. Looking at the underlying factors, many traders (particularly those in derivatives markets) remain pessimistic about future market trends, maintaining cautious attitudes as indices climb higher. At this juncture, this report aims to discuss how to reasonably compare Hong Kong stocks' current valuation levels, whether Hong Kong stocks are excessively overvalued, and why we remain positive about medium-term market prospects.

**Core Viewpoints**

**Longitudinal Perspective: Structural Changes Affect Valuation Centers**

Looking simply at the historical percentile of the Hang Seng Index's dynamic PE, Hong Kong's market current valuation of 11.8X sits at one standard deviation above since 2013, no longer qualifying as "cheap." However, it's important to note that applying percentile valuation methods requires considering Hong Kong's own transformations.

1) Company composition and sector structure changes: Looking back to 2003-2007, real estate and finance were still experiencing high growth, and Hong Kong stocks enjoyed a four-year bull market under global monetary easing. Over the past decade, growth in finance and real estate has slowed, losing their "growth" characteristics, while new economy-related companies' weight in the MSCI China Index has risen from under 30% to 70%. Similarly, finance and real estate's share in the Hang Seng Index has rapidly declined, while new economy sectors now account for nearly 60%. Growth sectors once again dominate. Therefore, when making historical median comparisons, attention should focus on sector valuations rather than broad indices. Currently, most sectors are at median levels since 2020, with building materials, banking, construction, new energy, and steel sectors ranking higher, while consumer services, textiles and apparel, food and beverage, computers, and media sectors have relatively lower valuations.

2) Liquidity level changes: When comparing Hong Kong Stock Connect indices with CSI 300 or AH dual-listed companies on comparable terms, Hong Kong and A-share turnover rates have aligned. Therefore, liquidity discounts facing Hong Kong stock valuations have significantly decreased, with valuations not deviating from levels that liquidity can support.

3) Investor structure changes: Increased proportion of funds enjoying domestic low financing costs will elevate Hong Kong stock valuation centers. Using domestic long-term interest rates as the 1/pe-rf calculation basis, the Hang Seng's value sits at the historical 53rd percentile, not expensive. It's important to note that 1/pe-rf calculations don't equal ERP, which explains why US stocks show negative values and Hong Kong stocks can break previous lows.

**Cross-sectional Comparison: Hong Kong Stocks Still Offer Value Globally**

For domestic investors, AH premium serves as a good indicator. While not covering all stocks, it provides reference for comparable companies. We identified AH premium convergence as a major trading theme in "Hong Kong Stock Revaluation Building Momentum" (May 23, 2025). Since May, AH premium has declined from 134 to 119, currently at five-year lows. In "Hong Kong Asset Revaluation Enters New Phase" (July 23, 2025), we noted that AH premium doesn't strictly have a 25% floor, as dividend tax differences between markets aren't significant, and AH pricing models are non-linear with denominator effects being greater. The post-2020 center elevation resulted from cyclical factors like US dollar strength. Given current exchange rates and valuation levels, AH premium appears reasonable, and under medium-term trends of RMB appreciation and USD weakening, AH premium still has room for further convergence, indicating Hong Kong stocks aren't significantly overvalued.

For overseas investors, Hong Kong stocks still offer value. While the Hang Seng Index's 30% year-to-date gain has drawn attention, global stock markets have almost universally risen under loose financial conditions with USD depreciation and oil price declines. Looking ahead, global financial liquidity may continue loosening, driven not only by Fed rate cuts but also global fiscal-monetary coordination and US financial deregulation. Hong Kong stocks, as China's offshore RMB assets, similarly benefit from abundant global liquidity and foreign capital inflows. Under the PB-ROE framework, Hong Kong stocks rank at medium value levels compared to other global assets, showing no significant overvaluation.

**Risk Warnings:** Geopolitical volatility, policy implementation falling short of expectations

**Main Text**

**This Week's Key Views**

Following last week's rapid mid-week correction, Hong Kong's stock market has reached new highs. The Hang Seng Index hit highs not seen since September 2021, while the Hang Seng Tech Index approached previous DeepSeek rally peaks. Alongside market gains, our constructed Hong Kong sentiment indicator has moderately recovered from panic territory to 31.1, though it hasn't shifted to optimistic territory. Many traders (especially derivatives market participants) remain pessimistic about future trends, maintaining caution as indices climb. At this point, this report discusses how to reasonably compare Hong Kong stocks' current valuations, whether they're excessively overvalued, and why we remain positive about medium-term prospects.

**I. Longitudinal Comparison: Hong Kong Stocks Have Changed - Historical Data Comparisons Need Adjustments**

Simply looking at Hang Seng Index dynamic PE historical percentiles, Hong Kong's current 11.8X valuation sits one standard deviation above 2013 levels, no longer "cheap." But does this mean Hong Kong stocks are overpriced? First, simple valuation percentile methods may not directly apply to Hong Kong stock valuations. As noted in "Hong Kong Stock Revaluation Building Momentum" (May 23, 2025), low growth and low liquidity jointly caused historically depressed Hong Kong stock valuations. Current Hong Kong market company composition, liquidity levels, and investor structure are undergoing systematic changes - today's Hong Kong stocks aren't the same market as before and can't be directly compared. To minimize these factors' influence, we've optimized percentile valuation comparison methods.

1) Company composition and sector structure changes: Using MSCI China Index weights as reference, new economy-related companies' weight has risen from under 30% to 70% over the past decade. In 2016, Hang Seng Index finance and real estate sectors comprised 47.6% and 10.1% respectively, now declined to 32.0% and 3.8%. Comparatively, new economy sectors (like consumer discretionary, telecommunications, healthcare) have risen from around 20% to 58.6%. Therefore, focusing on individual sector valuations versus historical centers may be more meaningful than using indices with significantly changed compositions. Currently, most sectors have recovered to 2020 median levels, with building materials, banking, construction, new energy, and steel sectors ranking higher since 2020, while consumer services, textiles, food and beverage, computers, and media sectors show relatively lower valuations.

2) Liquidity level changes: Overall Hong Kong market turnover remains only 60%-70%, below A-shares and US stocks, but mainly dragged by small caps. Comparing Hong Kong Stock Connect indices with CSI 300 or AH dual-listed companies on comparable terms, Hong Kong and A-share turnover rates have aligned. Therefore, liquidity discounts facing Hong Kong stock valuations may have significantly decreased, leading to rising valuation centers.

3) Investor structure changes: Trillions in southbound funds have changed Hong Kong's investor structure, with southbound funds now comprising nearly 40% of Hong Kong Stock Connect trading. Increased proportion of funds enjoying domestic low financing costs also elevates Hong Kong stock valuation centers. Calculating equity excess returns (1/pe-rf) separately for overseas investors (using US Treasury rates) and southbound investors (using Chinese bond rates), these currently sit at historical 0% and 53% percentiles respectively.

Note that while this calculation is often equated with equity risk premium due to simplicity, strictly speaking, referencing DCF or DDM perpetual discount models and assuming cash flows or dividends proportional to EPS, 1/pe-rf calculations include not just ERP but ERP-g (perpetual growth rate) functions. This explains seemingly unreasonable "negative equity risk premiums" in US stocks after GPT's 2022 emergence and during the early 2000s tech bubble - risk still requires compensation (tech company credit bonds still carry positive spreads), but investor growth expectations also rose significantly. Similarly for Hong Kong stocks, after DeepSeek's emergence, macro growth stabilization, and entrepreneurial spirit revival, ERP decline and growth rate recovery present new possibilities, making Hong Kong market 1/pe-rf breakthrough of previous lows feasible.

**II. Cross-sectional Comparison: Hong Kong Stocks Still Offer Global Value**

Domestic investors primarily compare Hong Kong stock valuations with A-shares, with AH premium serving as a good indicator for comparable companies. We identified AH premium convergence as a major trading theme in "Hong Kong Stock Revaluation Building Momentum" (May 23, 2025). Since May, AH premium has declined from 134 to 119, reaching five-year lows. In "Hong Kong Asset Revaluation Enters New Phase" (July 23, 2025), we noted AH premium doesn't strictly have a 25% floor: first, dividend tax differences between markets aren't significant - A-shares also have dividend taxes, and investors bearing higher dividend taxes in Hong Kong versus A-shares comprise a small proportion, plus not all dual-listed assets are dividend-paying; second, dividend taxes aren't the main source of AH premium cyclical changes - pricing models are non-linear with denominator effects being greater, with post-2020 center elevation resulting from cyclical factors like USD strength. AH premium has broken the 25% floor multiple times in 2025.

More importantly, AH premium indicators don't exhibit rapid mean reversion characteristics, so theoretical centers calculated by any method provide limited investment guidance. Judging whether AH premium can further converge requires examining influencing factors' directions. Given current exchange rates and market conditions, AH premium appears reasonable, and under medium-term trends of RMB appreciation and USD weakening, AH premium still has room for further convergence. Additionally, more non-dividend companies listing AtoH will continue structurally reducing premium levels. Therefore, Hong Kong stocks aren't overvalued relative to A-shares.

For overseas investors, Hong Kong stocks still offer global value. While the Hang Seng's 30% first-half gain drew attention, global stock markets have almost universally risen year-to-date under loose financial conditions with significant USD depreciation, with Hong Kong's performance not leading globally. Looking ahead, global financial liquidity may continue loosening, driven not only by Fed cuts but also global fiscal-monetary coordination and US financial deregulation. As global assets benefit, Asian currencies, especially RMB versus USD, still have catch-up potential. Hong Kong stocks, as China's offshore RMB assets, similarly benefit from abundant global liquidity and foreign capital inflows ("RMB Appreciation: How to Position in Hong Kong Stocks," August 31, 2025). Under PB-ROE frameworks, Hong Kong stocks rank at medium value levels among global assets, showing no significant overvaluation.

**Market Performance**

**Valuation Comparison**

**Earnings Adjustments**

**Capital Flows and Market Sentiment**

**Buybacks, Issuances, IPOs and Lock-up Expirations**

**Risk Warnings**

Geopolitical volatility risk: Geopolitical conflicts may suppress risk appetite, leading to foreign capital outflows and sharp market volatility increases, causing trends to differ from our views.

Policy implementation falling short of expectations risk: If subsequent market overheating leads to weakened supportive policy strength, it may reverse current upward valuation trends or compress trading activity, causing market trends to differ from our views.

**Related Research**

Research Report: "Hong Kong Stocks Don't Need to Fear Heights" September 14, 2025