CITIC and CICC say the equity will rally in the second half of the year

LONDON - The lowest Chinese stock valuations since economic growth collapsed three years ago have sent a signal to the country's biggest brokerages that it's time to buy.

The Shanghai Composite Index's 6.2 percent retreat this quarter sent the gauge to 11.6 times estimated profit, data compiled by Bloomberg show. It took the global financial crisis and a decline in China's growth rate to a seven-year low of 6.8 percent to push valuations this low in November 2008. The Shanghai gauge rebounded 49 percent in the next six months.

CITIC Securities Co and China International Capital Corp, which predicted the drop this quarter, say the market will rally in the second half as inflation peaks and the government sustains the economic expansion by easing credit. Even Nouriel Roubini, the New York University economist who says China may face a "hard landing" after 2013, expects growth of at least 8.8 percent in 2011 and 2012.

"The market has basically priced in a very pessimistic outlook for the economy," said Ling Peng, chief strategist at Shanghai-based Shenyin & Wanguo Securities Co, ranked China's most influential research provider by New Fortune magazine last year. "A hard landing of the economy is very unlikely," he said, forecasting that the Shanghai index will advance as much as 15 percent by the end of the year to about 3150.

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The gauge of more than 900 stocks traded mostly by local investors has trailed the MSCI Emerging Markets Index by 1.5 percentage points this quarter as the People's Bank of China raised lenders' reserve requirements for the 12th time since the start of 2010 and increased benchmark interest rates for the fourth time. Tighter monetary policy has spurred a drop in loans, cut money supply growth to the slowest pace since 2008 and sent short-term borrowing rates to a three-year high.

The government is curbing credit to tame consumer prices that boosted inflation to 5.5 percent last month, the highest level since July 2008. Retail sales trailed estimates in the past two months as rising prices eroded the buying power of China's 1.3 billion people.

The Shanghai index rallied 3.9 percent to 2746.21 last week after Premier Wen Jiabao wrote in an opinion piece in the Financial Times that China's efforts to stem inflation have worked and the pace of price increases will slow.

Beijing-based Bank of China Ltd has a price-to-book ratio 40 percent below its five-year average, according to data compiled by Bloomberg.

China Vanke Co is valued at a 50 percent discount to the MSCI's gauge of global real estate companies, compared with a 10 percent discount two years ago, the data show. Shares of the Shenzhen-based company climbed 4.1 percent last week.

"The tightening that China has done for the last 18 months has been effective and seems to be coming towards an end," said Philippe Langham, who runs the $855 million RBC Emerging Markets Fund from London. The government "still seems to have a large amount of control" over the economy, he said.