Morgan Stanley has pivoted its strategic emphasis from Hong Kong-listed stocks to mainland Chinese equities. In its latest assessment, the investment bank advises locking in profits from the recent recovery rally in Hong Kong and redirecting attention back to the A-share market. Analysts point to stabilizing global markets and the resurgence of the AI super-cycle as converging catalysts for mainland equities. Furthermore, they suggest the short-term liquidity pressures stemming from major A-share IPOs, such as those from Yangtze Memory Technologies and Unitree Robotics, are expected to gradually dissipate.

Evaluating the Hong Kong Rally

Morgan Stanley notes that the core rationale for its bullish stance on Hong Kong stocks since early July has largely been priced in by the market. Firstly, the second-quarter earnings season validated signs of a bottoming-out in corporate profits, particularly within the internet and e-commerce sectors, where easing price competition is bolstering earnings recovery. Secondly, major tech firms like Tencent (00700) and Alibaba (09988) have been advancing their AI initiatives with new large language model releases and ecosystem upgrades, alleviating concerns about the capital expenditure outlook for China's leading computing power companies. Additionally, the overhang from the massive IPO lock-up expirations accumulated since May 2026 has been steadily digested between July and August.

External factors also contributed to the rally. During the global market correction, short positions on Hong Kong stocks were covered, and with global investors holding generally low positions, this fueled the upward move. From a valuation standpoint, the MSCI China Index trades at 10.7 times forward 12-month earnings, a roughly 6% premium to the MSCI Emerging Markets Index, yet it still commands a significant discount compared to major global benchmarks like the S&P 500 (19.7x), TOPIX (16.0x), and MSCI Europe (14.9x). In contrast, the CSI 300 trades at a 13.2x multiple, representing about a 23% premium over MSCI China, a historically persistent trend for A-shares relative to H-shares.

Three Pillars Supporting A-Share Momentum

Morgan Stanley identifies three key dimensions where conditions for the A-share market are progressively improving.

Firstly, there is higher exposure to AI and technology. The concentration of A-shares in high-end manufacturing and hard tech is significantly greater than in Hong Kong. Semiconductor, electronics, tech hardware, and communication equipment sectors collectively account for roughly 42% of the CSI 300's weight, far exceeding their 13.6% share in MSCI China and 8.4% in the Hang Seng Index. This structural difference ties the A-share market more closely to the global AI capital expenditure cycle, positioning it for a more direct earnings resonance as the AI super-cycle regains momentum.

Secondly, liquidity pressures are temporarily easing. Large tech IPOs on the mainland, including CXMT and Unitree Robotics, typically create a noticeable liquidity squeeze at their launch. Data indicates that for the five most recent tech IPOs raising over 10 billion yuan, the average daily turnover share of the full market during the first week after listing fell by about 0.5 percentage points in weeks two to four post-listing. As this pressure subsides, the breadth of market trading is expected to recover.

Thirdly, state-backed support is strengthening. Data shows that domestic passive fund inflows turned positive again during the global AI market pullback in July. Net buying by state teams for CSI 300, CSI 500, and CSI 1000-related funds has also expanded, providing additional buffer support during periods of market volatility.

Anticipating a September Re-Acceleration for Hong Kong

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

Expectations for policy easing are also rising, with an increased probability of additional stimulus around late September. Morgan Stanley estimates that as of the end of July, unused quota for government bonds and new policy financial instruments totals roughly 1.2 trillion yuan. If macroeconomic conditions deteriorate, this fiscal space could be activated, acting as a positive catalyst for both Hong Kong and mainland markets.

September Lock-Up Expiry: Manageable Overall, but Structurally Uneven

Morgan Stanley also highlights that September 2026 is set to be the largest month for IPO lock-up expirations in the Hong Kong market in five years, with July ranking second. However, historical data does not show a stable positive correlation between large lock-up expiry months and weaker market performance, leading the bank to judge the overall market impact as likely limited. On a sector level, information technology and materials will face the most concentrated supply pressure, with these two sectors together accounting for 66% of Hong Kong's lock-up market value in the second half of 2026. Their ratio relative to their own free-float market value is also the highest among all sectors, so investors should pay attention to potential short-term supply shocks in these areas.

Foreign Holdings: Continued Underweight, Passive Funds Dominant

On the fund flow front, foreign ownership in A-shares has not seen a significant rebound as a percentage of total or free-float market value, with an underweight stance persisting. In Hong Kong, the underweight position in China/Hong Kong stocks held by global and emerging market active funds narrowed during the July market correction, but active funds overall continued their net outflow trend. So far in 2026, net foreign inflows are about 50% of the full-year 2025 level and remain dominated by passive funds. This structure suggests that the marginal driver of current market inflows comes more from index-level passive allocation than from active investors strategically increasing their China exposure, offering relatively limited support for sustainable market momentum.