Morgan Stanley has shifted its strategic focus from Hong Kong stocks to mainland China A-shares. In its latest report, the firm advises locking in profits from the earlier recovery rally in Hong Kong-listed equities and redirecting attention back to the onshore market.

The analysts note that stabilizing global markets, combined with the return of momentum in the AI super-cycle, is creating a favorable resonance for A-shares. Additionally, the short-term liquidity pressures triggered by large-scale A-share IPOs from companies like Yangtze Memory Technologies and Unitree Robotics are expected to be gradually absorbed.

Hong Kong's Rally Since July Is Fully Priced In

Morgan Stanley points out that the core rationale behind its bullish stance on Hong Kong stocks since early July has now been largely digested by the market. First, the second-quarter earnings season validated signs of a bottoming in profits, particularly within the internet and e-commerce sectors, where easing price competition has supported earnings recovery.

Second, major tech firms such as Tencent, Alibaba, and Baidu have continued to advance their AI initiatives with new large language model releases and ecosystem upgrades, alleviating concerns about capital expenditure prospects for China's hyperscale computing companies. Furthermore, the overhang from large-scale IPO lock-up expirations accumulated since May 2026 has been steadily worked through between July and August.

External factors have also contributed. During the global market correction, short-selling positions against Hong Kong stocks were covered, and with global investor positioning generally low, this combination fueled the rebound. From a valuation perspective, MSCI China currently trades at 10.7 times forward 12-month earnings, a premium of about 6% relative to the MSCI Emerging Markets index, but still at a notable discount to major global benchmarks like the S&P 500 (19.7 times), TOPIX (16.0 times), and MSCI Europe (14.9 times).

The CSI 300, however, trades at 13.2 times earnings, representing a roughly 23% premium over MSCI China, reflecting the historically persistent premium of A-shares over H-shares.

Three Pillars Supporting Improving A-Share Momentum

Morgan Stanley believes conditions in the A-share market are gradually improving, as seen across three key dimensions. First, exposure to AI and technology is higher. The concentration of A-shares in advanced manufacturing and hard technology sectors is significantly greater than that of Hong Kong stocks. Semiconductors, electronics, tech hardware, and communication equipment together account for approximately 42% of the CSI 300, far exceeding the 13.6% weight in MSCI China and 8.4% in the Hang Seng Index.

This structural difference gives A-shares a stronger correlation with the global AI capital expenditure cycle, potentially creating a more direct earnings resonance as the worldwide AI super-cycle regains momentum. Second, liquidity pressure is fading. Large-scale tech IPOs in the A-share market, including CXMT and Unitree Robotics, typically cause noticeable liquidity absorption in their early trading days. Data shows that for the past five tech IPOs raising over 10 billion yuan, the average daily turnover as a percentage of total market activity declined by about 0.5 percentage points in the second to fourth weeks following listing. As this pressure subsides, market breadth is expected to recover.

Third, support from the national team is strengthening. Data indicates that domestic passive fund inflows turned positive again during the global AI market correction in July, with net purchases by the national team into CSI 300, CSI 500, and CSI 1000-related funds all expanding. This provides additional buffer support during volatile periods.

A Window for Hong Kong to Regain Momentum in September

Despite its current preference for A-shares, Morgan Stanley also suggests that Hong Kong stocks could regain momentum around late September, identifying several potential catalysts. A dense calendar of AI-related events includes Tencent's Global Digital Ecosystem Summit and WeChat AI launch, Alibaba's Qwen 4.0 upgrade and Apsara Conference, Baidu's potential dual primary listing and inclusion in Stock Connect, and new model releases from MiniMax and Z.AI. This packed September tech calendar could provide both sentiment and fundamental support for the Hong Kong internet sector.

Expectations for policy easing are also rising, with the probability of additional measures increasing around late September. Morgan Stanley estimates that as of end-July, the combined unused quota for government bonds and new policy-based financial instruments stands at approximately 1.2 trillion yuan. If macroeconomic conditions deteriorate, this fiscal space could be activated, serving as a positive catalyst for both Hong Kong and A-share markets.

September Unlock Pressure in Hong Kong: Manageable Overall, but Structurally Divergent

Morgan Stanley also highlights that September 2026 will see the largest monthly IPO lock-up expiration for the Hong Kong market in five years, with July ranking second. However, historical data does not show a stable positive correlation between large unlock volumes and weaker market performance, leading the firm to judge that the overall market impact may be limited.

At the sector level, however, information technology and materials will face the most concentrated supply pressure, with these two sectors combined accounting for 66% of the total Hong Kong unlock value in the second half of 2026. Their ratio relative to their own free-float market capitalization is also the highest among all sectors, warranting investor attention to potential short-term supply shocks in these areas.

Foreign Positioning: Underweight Pattern Persists, Passive Flows Dominate

In terms of capital flows, foreign ownership of A-shares as a percentage of both total and free-float market value has not shown a clear recovery, with the underweight pattern continuing. For Hong Kong, the underweight positioning of global and emerging market active funds in China/Hong Kong narrowed during the July market pullback, but active funds overall continued their net outflow trend.

Year-to-date in 2026, net foreign inflows are roughly 50% of the full-year 2025 level, still dominated by passive funds. This structure implies that marginal drivers of current market inflows come more from index-level passive allocation rather than active investors strategically increasing exposure to Chinese assets, meaning the sustainability of market support remains relatively limited.