In May, the index showed no significant fluctuations. The China All-A Index declined by -1.2% for the whole month, while the CSI 300 Index dropped 0.68%. The China Securities Index 2000, the smallest market cap index, and the BSE 50 index fell by -2.48%, -3.83%, and -5.24% respectively, indicating a clear positive correlation between market strength and stock market capitalization. As of May 31st, the CSI 300 Index, representing large-cap blue-chip stocks, has risen 4.34% year-to-date, and the Shanghai Composite Index, dominated by large-cap stocks, has risen 3.76%. However, among the 5,364 A-shares, only 1,096 stocks, or 20.43%, increased, while 4,236 stocks, or 78.97%, declined. The median stock in the market has declined by -16.51% so far this year, meaning that if an investor bought a single stock, a loss of less than 16.5% would have outperformed the market median. 

Despite the overall market decline, sectors such as undervalued high-dividend stocks, upstream resources, precious metals, and quality companies with improved fundamentals have continued to rise. This is consistent with the "structural bull market" scenario we discussed in previous monthly reports, where there is no broad-based bull market, nor is there systemic risk, but the market is developing along the lines of a structural bull market. Our products have delivered decent positive returns in the first five months, significantly outperforming the CSI 300 Index. Our research team has demonstrated its advantages in depth and breadth of analysis, which have gradually begun to show its resilience in the market's structural differentiation.

The power of the new "Nine Measures" has begun to emerge. From May 6th to May 21st, a short span of just 16 days, 54 companies have been designated with the "ST" or "*ST" risk warning status, indicating increased enforcement of delisting rules. The new delisting regulations have led to more companies triggering regulatory red lines and being subjected to risk warnings, resulting in a significant increase in the number of ST-status stocks. This reflects the regulators' determination to intensify the delisting process and push for a normalized delisting mechanism. Stocks in the ST segment have begun to experience collapse-like declines, with more occurrences of consecutive limit-down trading that makes it difficult for investors to exit. This has further exacerbated the panic sentiment among investors in underperforming and small-cap companies, leading to a rush for the exits and panicked sell-offs.

In recent days, I've seen many heartbreaking stories on short-video platforms about investors who have had their wealth wiped out due to holding delisted companies. As someone who has had similar painful experiences, I can fully empathize with the sense of helplessness and despair.

In this issue, we will explore two topics:1) How to navigate a structurally differentiated market? 2) How should investors address the "mistakes" they have already made?

how to navigate a structurally differentiated market?

When our team discusses any investment topic, the discussion generally needs to focus on solving two problems. The first question is "how do we see it?" The second question is "what do we do?"

Regarding the market environment faced by the A-share market this year, before the Lunar New Year in early February, the main contradiction in the market was widespread losses and severe negative feedback, with a systemic decline being the main issue. In an environment of systemic decline, the level of position size is the key factor determining the outcome. Facing a systemic decline, controlling the overall risk exposure and reducing the portfolio's beta are both important tasks, and the former, position size, is the most critical factor. For products that can flexibly adjust position sizes, in an environment of systemic decline, it is natural to reduce positions as much as possible. For long-only products that aim to outperform, at this time it is necessary to reduce the portfolio's beta, and the priority is to shift from high-beta growth portfolios to low-beta value portfolios.

Due to the situation of continuous market decline, in the last few trading days before the Lunar New Year, the China Securities Regulatory Commission urgently changed leadership, and the policy signal to actively stabilize the market and encourage buying was very clear. All kinds of institutional investors continued to enter the market through ETFs to stabilize it, and preventing systemic financial risks had become the highest consensus.In this context, the market was at historically low valuations due to the prolonged decline, but encountered strong policy determination to stabilize the market. The concerns about systemic risks were gradually eliminated.

However, our internal team engaged in heated discussions and arguments on whether the market would head towards a full-fledged bull market or a structurally differentiated market going forward. Our team has a research team of nearly 30 people, fully covering and closely tracking various sectors including consumption, healthcare, technology, cyclicals, and deep value. Regarding the upstream, midstream, downstream, consumption, investment, and export areas, our colleagues have been tracking the latest macroeconomic data and industry conditions. 

Combining the valuation conditions and inventory clearance status across sectors, as well as the middle-ground data of industries and the micro data of enterprises, we reached an internal consensus: the current market conditions and industry differentiation do not support the immediate onset of a full-fledged bull market. The unfolding of a broad bull market still requires some time to digest the valuations in certain sectors, and to wait for the effects of policies to be gradually reflected in the macroeconomic and middle-ground data. After excluding the options of systemic decline and full bull market, the pattern of structural differentiation became the only choice.

Nowadays, the consensus among most professional and amateur investors is that this year will be characterized by the coexistence of a structural bull market and a structural bear market. With this "correct" judgment in place, why are we still so far from profitability? If there is no solution to the "what to do" problem, then the previous judgment about the coexistence of a structural bull market and a structural bear market is not much different from the magic formula of "buying low and selling high" (seemingly correct but actually useless)! This may be the fundamental reason why most investors have difficulty making money in the long run. In the first 5 months of this year, only 20% of all A-shares saw an increase. If one lacks comprehensive professional research and investment capabilities, choosing stocks by throwing darts is likely to have a lower success rate than going to a casino in Australia.

How can one avoid the constantly declining sectors and embrace the rising sectors and companies in this highly differentiated market this year? There are two types of investors who can achieve this: the first is those with good luck, and the second is those who have formed a large-scale model capability.

The essence of investing is the monetization of knowledge. Each investor and professional team can only make money within the scope of their own knowledge (capability circle). Most of the individual investors I have encountered belong to the category of investors who focus on a certain field and track, constantly training small models (some focus on consumer stocks, new energy, thematic speculation, or different cyclical sectors). For this type of investor, the likelihood of making money is highly correlated with luck. If the field they have been focusing on happens to be in the upward track this year, the long-term investors in this field will naturally have very good returns (such as low-valuation high-dividend and upstream resources this year). If the research scope and focus areas in the past fall into the 80% downward track this year, or even some problem companies and ST companies, the situation they face this year will be very difficult, even disastrous and devastating.

For individual investors, it is almost impossible to form a large-scale model investment capability that spans multiple industries and investment styles, because individual time and knowledge capacity are limited. However, if a reasonably-sized investment research team is rationally divided and each person or group is responsible for different fields, and they persistently and uninterruptedly research and track each field over the long term, then as the individual small models mature, the investment capability of this "large model" will gradually develop the "emergent" characteristics that the AI large model is said to have. With such "large model" research and investment capabilities, when compared to the entire market, which are the areas with the greatest opportunities, and which are the areas with the greatest risks that need to be avoided? This can significantly reduce the "art" component of investment behavior and increase the "scientific" element! The accuracy of the research and investment conclusions will be much more reliable than those without the support of a large model.

Of course, there are also many teams in the market that have large model capabilities and are training their own large models, each with their own methods and characteristics, but the underlying logic is the same - they are all pursuing the same goal.

How do we amend our investment mistakes?

The new "National Nine Provisions" policy has had a huge impact on the market. More and more companies that used to control profits through "financial report processing" are now facing multiple pressures such as deteriorating business conditions and strengthened regulation. The risks of financial reports and regulation have become greater and greater. This time it is truly different for companies with operational and financial problems, as well as for investors holding these stocks. For many years, the media and investment experts have been crying "the wolf is coming, the wolf is coming" about how A-shares will eventually become like Hong Kong stocks, and how fundamentally weak companies will eventually be marginalized and become forgotten "penny stocks." But their constant warnings made investors numb, especially when low-cap micro-cap stocks had decent "money-making effects" last year, making people forget that the wolf could actually come. 

This time, the wolf has really come! And due to the accumulation of various factors, the wolf has come even more fiercely than the Hong Kong stock market. Hong Kong penny stocks may still have a glimmer of hope for the future, but this time the determination is to "withdraw completely," leaving no chance to become a penny stock - they are delisted and wealth is zeroed out. Many investors have already felt the danger and chill, and have started to accelerate their exit from underperforming stocks and embrace high-quality stocks. But some investors may still be harboring illusions, which is very dangerous. Investors need to examine the stocks they hold and do a good job of risk management. 

Those who understand management know a truth: "The predicament we face today is rooted in the wrong decisions we made yesterday." If a company's performance does not meet expectations and the stock price keeps falling, the problem lies in whether the research before buying the stock was comprehensive, objective and in-depth. When the first quarterly report comes out and the situation does not meet expectations, is there timely, objective and rational evaluation of whether the previous investment decision was correct, and whether it needs to be corrected in a timely manner?

Correction" is an ability that investors must possess, but it is also the most difficult ability for investors to cultivate! Because in many classic books on value investing, there is a similar passage: "For the company you truly believe in, you should be happy when the stock price drops, because then you can buy more of the company you believe in at a lower cost!" So should you sell out and correct the mistake in a timely manner? Or should you stick to your original view and continue to average down the cost? What if you stop the loss, and then the stock price goes up again? This is indeed a soul-searching dilemma! Here, I think you should first ask yourself a simpler question: "What is my level of knowledge and practical ability in the investment field compared to the overall market?" Answer this question first, then it will be easier to handle the dilemma mentioned above.

Including myself, the vast majority of professional investors will definitely make many mistakes when conducting research and making investment decisions. Top-notch professionals can achieve a 60% accuracy rate, which is already very excellent. For the remaining 40% of wrong decisions, you must correct them in a timely manner and avoid the risk of being cleared out with no chance of a comeback. Therefore, unless you feel that your investment knowledge and ability surpasses 99.999% of investors in the market, and you are one of the extremely few who never make mistakes (at least I personally feel I am still very far from this level), you can try the "you should be happier when the stock price drops" approach and continue to average down. However, even so, you should still reserve a safety margin for your normal life and a comeback, after all, you and I are ordinary people, and investment and wealth management are just icing on the cake, don't set too high a target for yourself.

How and when to Correct?

Based on my years of experience and lessons learned, when facing mistakes that have already been made, if one clings to wishful thinking and waits for a miracle to happen, it is often difficult to get what one wishes for. When facing mistakes that have already been made, one needs to correct them immediately! If it has been dragging on for a long time and a lot of losses have been incurred, the best way to correct the mistake is to do it right away. If you really can't bring yourself to do it, being indecisive, then it's best to first correct 50% of the mistake. From my experience, once you take that initial 50% corrective action, you will become more rational and objective. After that, you'll likely quickly complete the full correction. There is a saying on the wall of our company office: "It's never too late to do the right thing!" In investing, correcting mistakes is the starting point to move away from error. We can never achieve the desired results using the wrong methods. Admitting and correcting mistakes takes courage, but it is the only way to truly improve. Avoiding or denying mistakes will only lead to compounding losses. As the saying goes, "A wise man learns from his mistakes, a fool repeats them." As investors, we must have the self-awareness and humility to recognize our own errors, and the resolve to swiftly make corrections. Only then can we hope to achieve long-term investment success. The road to wisdom is paved with the willingness to admit and fix our missteps.

Recent Strategy

After the systematic and rapid advancement of the era of globalization, the global trade and investment environment is entering a stage of differentiation and consolidation. Every drastic change in the environment is a stage where both challenges and opportunities coexist. Companies and investors who can well grasp and adapt to the changes in the environment will undoubtedly become the winners in this round of transformation. However, the challenges facing companies and investors who ignore the changes and fail to make timely adjustments are enormous. 

The 5,364 listed companies are like "boats" carrying the wealth creation dreams of hundreds of millions of Chinese investors. Perhaps hundreds or thousands of these "boats" with poor quality are in the process of taking on water and capsizing. We believe that on the sidelines of the sinking boats, there will be a batch of high-quality "boats" led by excellent management, riding the waves and bringing shareholders to the shores of wealth. Investing is an activity where choice is more important than effort. The key is to choose which "boat" to entrust our wealth dreams to. This is the most critical issue. Environmental changes bring both challenges and opportunities. Enterprises and investors who can grasp the changes and make timely adjustments will gain the upper hand, while those who ignore the changes will face severe challenges. The success of investment depends more on the choice of the right "boat" than sheer effort. Identifying high-quality enterprises to invest in is the key to achieving investment success in this changing environment.

What kind of "boat" can carry our wealth dreams? It's actually not that complicated or difficult - just stick to the most fundamental principles of investing. Firstly, we must respect the basic common sense of investing. Companies that do not align with common sense should be avoided, even if they are currently very popular and attractive in the short term. Secondly, the company should have barriers to entry, a moat, and competitive advantages. This provides a solid foundation for long-term value creation. Thirdly, the valuation should be reasonable, or even undervalued. We should be willing to buy the whole company outright at the current share price - this is the hallmark of a truly good company. 

In essence, the "boats" that can reliably carry our wealth dreams are high-quality companies that adhere to commonsense investing principles, possess sustainable competitive advantages, and trade at attractive valuations. By focusing on these key factors, we can identify the most promising "boats" to board on our journey to financial prosperity. The keys are discipline, patience, and a focus on intrinsic value rather than short-term hype.

Due to the recent bear markets in both the A-shares and Hong Kong stock markets over the past few years, many quality companies are currently quite undervalued and still fit the investment criteria. Although there has been some adjustment pressure in the markets in mid to late May, this stage of "suddenly warm but still cold" and market volatility is normal. Investors should exercise patience, just like sowing seeds in spring, and wait for the growth and harvest season of these quality companies.

Even though the current market environment is still fluctuating, there are actually many undervalued, high-quality companies that meet the investment standards. Investors need to remain patient and wait for these quality enterprises to flourish and bear fruit, just as one waits for a spring planting to reach the harvest stage. The market corrections are part of a normal process, and long-term investors should not be deterred by short-term volatility

Today is June 1st, Children's Day, the happiest day for children. 

May you, who were once a child, still hold on to that childlike heart! Happy Children's Day! Wishing you happiness every day! 

                                  Wu Weizhi

June 1st 2024

本期《偉志思考》簡體中文版鏈接：

伟志思考 | 沉舟侧畔千帆过，病树前头万木春