Goldman Sachs: Overweight Chinese A-shares, Defensive Sectors Become "Safety Cushion"

According to the Zhitong Finance APP, the Morgan Stanley Capital International Asia-Pacific Index (MXAPJ) has fully recovered from the sharp decline at the beginning of the year and is now close to the year-to-date high. On May 10, Goldman Sachs pointed out in its latest strategy report that the driving factors for the rise include: an increase in news regarding trade agreements, a easing of pressure indicators from recent extreme levels, a weakening dollar, and signs of tentative risk-taking in portfolio fund flows.

Goldman Sachs' latest forecasts for earnings growth in the Asia-Pacific region for 2025 and 2026 are 7% and 8% respectively (previously 6% and 8%), while the market generally expects 10% and 11%. Goldman Sachs noted that, given the trade turmoil and weak survey data indicating that demand in the U.S. and globally may soften, downside risks still exist.

Market pricing appears overly optimistic—April's market performance exceeded the returns predicted by macro models, and regional valuations have rebounded to moderate levels, consistent with Goldman Sachs' top-down price-to-earnings model estimates, but with little consideration of geopolitical risks.

Short-term consolidation, moderate 12-month returns—the combined effect of weak growth and optimistic pricing suggests that the market may experience a pullback in the near term. Goldman Sachs expects a return of -4% over the next 3 months and +4% over 12 months; its latest targets for the MXAPJ index over 3 months / 6 months / 12 months are 570, 595, and 620 (previously 520, 540, and 580).

The analysis of upside/downside scenarios points to alpha and beta strategy choices—Goldman Sachs examined more optimistic (lower tariffs, reduced policy uncertainty) and more pessimistic (U.S. economic recession) scenarios, resulting in upside potential of +6 percentage points and downside risk of -23 percentage points compared to Goldman Sachs' 12-month baseline. This highlights the importance of focusing on alpha investment opportunities within the region.

Maintain a preference for mainland China and defensive positioning—maintain an overweight on China (favoring A-shares) and Japan; reduce holdings in Australia and Taiwan; maintain a neutral position on India and South Korea. More optimistic about the internet and defensive sectors compared to commodities and global cyclical industries.

Key themes—maintaining resilience in a challenging macro environment, domestic consumption in China, policy support in China, sectors benefiting from artificial intelligence, earnings quality/earnings expectations revisions, shareholder returns, and the defense sector.

Goldman Sachs has also screened stocks that benefit from a weakening dollar and those that are adversely affected (see end of article).

Goldman Sachs Asia Stock Market Outlook

1. Significant Rebound

The MXAPJ index has rebounded 16% after plummeting 15% from its peak on February 21 to its low on April 9, once again approaching the year-to-date high. All Asian stock markets have shown similar trends, with declines ranging from 11% to 28% and rebounds between 13% and 28%. The indices that experienced the largest declines often rebound more strongly. Not all markets have recovered to their highs for the year, but most are within 5% of those levels Figure 1: The MXAPJ Index rebounded 16% from the April low, recovering the year-to-date high.

Figure 2: Markets that previously experienced significant declines have rebounded more strongly.

2. Factors Driving the Rise

Several factors can explain the stock market rebound.

First, the market's expectations for trade agreements have warmed, triggering a sentiment of "tariffs have peaked." There has been an increase in news about negotiations between the U.S. and its trade partners, with the recent trade agreement between the U.S. and the U.K., and U.S. Treasury Secretary Scott Pelley and Trade Representative Jamison Greer set to meet with Chinese Vice Premier He Lifeng.

Second, pressure indicators have eased, including the U.S. Economic Policy Uncertainty (EPU) Index and Goldman Sachs' U.S. Financial Conditions Index (FCI). This has alleviated market concerns about a U.S. economic recession, although Goldman Sachs economists still estimate a 45% probability of recession.

Third, the U.S. dollar has weakened, with the New Taiwan Dollar's performance against the U.S. dollar being particularly notable, recently appreciating 4% in a single day, marking the highest level in over forty years. Goldman Sachs' foreign exchange strategists have revised their forecasts for the U.S. dollar against Asian currencies, expecting further appreciation of regional currencies, which will enhance investment returns denominated in U.S. dollars. Finally, portfolio fund flows show initial signs of risk-taking: after a sustained net outflow of foreign funds from emerging Asian stock markets, there has been a recent net inflow of foreign funds.

Figure 3: U.S. financial conditions have eased since the peak in early April, and U.S. economic policy uncertainty has also moderated, but remains high.

Figure 4: The New Taiwan Dollar's single-day appreciation against the U.S. dollar set a historical record.

Figure 5: Goldman Sachs' foreign exchange strategists expect further appreciation of regional currencies amid a general weakening of the U.S. dollar.

Figure 6: After a net sell-off of $50 billion in the stock markets of emerging Asia (excluding China) year-to-date, foreign investors have recently net bought $10 billion.

3. Earnings Outlook Remains Dim

Goldman Sachs has updated its earnings forecasts for the region based on first-quarter performance (with about 50% of earnings reports completed), the latest exchange rate expectations, fundamentals and translation effects, lower commodity prices (Goldman Sachs has lowered its 12-month Brent crude oil forecast from $59 per barrel to $57), the easing of U.S. tariff assumptions on China, and other macro and industry developments.

Goldman Sachs expects earnings growth for the MXAPJ index to be 7% and 8% for 2025 and 2026, respectively (previously 6% and 8%), while the market generally expects 10% and 11%.

Given the trade turmoil and weak survey data suggesting that U.S. and global demand may soften, downside risks remain: Goldman Sachs' global economists point out a significant gap between current hard data and much weaker survey data, indicating that growth momentum may weaken in the coming months. Goldman Sachs' earnings forecast revision leading indicators and corporate earnings guidance scores also show that the market generally expects earnings to be downgraded, with heightened corporate negative sentiment.

Figure 7: Goldman Sachs' latest earnings growth forecasts for the region for 2025 and 2026 are 7% and 8%, respectively, which is cumulatively 5% lower than the market's general expectation for 2026 earnings per share.

Figure 8: Goldman Sachs' earnings forecast revision leading indicator (ERLI) predicts further downgrades in earnings, while Goldman Sachs' Asian earnings guidance score (AEGiS) shows heightened corporate negative sentiment.

4. Market Pricing Appears Too Optimistic

The region's stock markets have rebounded significantly from their April lows, indicating that the market's pricing of the outlook is overly optimistic, especially against a backdrop of generally weak earnings growth. Three analytical approaches confirm this.

First, Goldman Sachs models market and industry returns using five macro factors: Chinese economic growth, U.S. economic growth, U.S. 10-year Treasury yield, commodity prices, and U.S. economic policy uncertainty. This model shows that the implied return of the MXAPJ index in April was -5%, while the actual net change was +1%, indicating that the market is overly optimistic Second, the region has rebounded to moderate levels across various indicators, although there are significant differences within the region. The expected price-to-earnings ratio for the next 12 months has risen to 13.3 times, approximately at the 20-year average level. Other indicators, such as the 24-month expected price-to-earnings ratio, price-to-book ratio, equity-bond yield spread, and implied equity risk premium, also provide similar (or higher) readings.

Third, Goldman Sachs' top-down price-to-earnings model shows that the current valuation is consistent with the levels implied by the current macro backdrop, but it hardly considers geopolitical risks.

5. Short-term consolidation, moderate returns over 12 months

The combined effect of weak earnings growth and pricing optimism suggests that the market may experience a pullback in the near term. The market could decline by 4% in the next 3 months, but if tariff pressures ease and Goldman Sachs' non-recession macro baseline assumption holds, the market is unlikely to fall to recent lows. Based on the latest earnings expectations and a target price-to-earnings ratio of 13.3 times (not accounting for policy uncertainty discounts, with a 0.2 times adjustment due to the strengthening of Asian currencies), Goldman Sachs expects a price return of 4% in US dollars over the next 12 months. However, if recent policy uncertainty rises again, the market may experience some degree of consolidation. Goldman Sachs' latest targets for the MXAPJ index are 570, 595, and 620 for 3 months, 6 months, and 12 months, respectively (previously 520, 540, and 580).

Figure 12: The market may pull back part of the recent significant gains within 3 months, then follow the earnings growth trend over 12 months.

6. Upward/Downward scenario analysis points to alpha and beta strategy choices

In an environment of high uncertainty regarding policies and their impacts, scenario analysis helps investors assess risk and return potential. Goldman Sachs examined more optimistic (lower tariffs, reduced policy uncertainty) and more pessimistic (US economic recession) scenarios.

More specifically, in Goldman Sachs' updated baseline scenario, it assumes a 10% basic tariff on regional economies, a 70% reduction in reciprocal tariffs due to some recent positive trade developments, a more significant adjustment in the renminbi exchange rate, and assumes that US tariffs on China will be around 60%, with no US economic recession. Compared to the previous baseline scenario (which assumed a 40% reduction in reciprocal tariffs, tariffs on China exceeding 125%, and no US economic recession), Goldman Sachs expects earnings to improve by 2-3%, and valuations to increase by 2-3%.

In the optimistic scenario, Goldman Sachs assumes a 10% basic tariff on regional economies (with reciprocal tariffs completely eliminated except for China, where an additional 20% tariff will continue to apply), and the economic policy uncertainty index will drop to long-term average levels. Compared to the current baseline scenario, this would further improve earnings by 3% and increase valuations by 3% In a pessimistic scenario, Goldman Sachs assumes a recession in the U.S. economy, which aligns with the predictions made by Goldman Sachs economists prior to the 90-day suspension of reciprocal tariffs, as well as the forecasts from Goldman Sachs' U.S. strategists regarding the S&P 500 index (projected level of 4600, down 25% from its peak) based on historical patterns of stock market recessions. Goldman Sachs maps these scenarios to regional earnings and valuations, and cross-verifies the correlation between regional markets and the U.S. market based on a consistent pattern observed over the past thirty years, where Asian markets tend to decline whenever the U.S. stock market pulls back by 10% or more (with an average beta coefficient of 1.0).

Analysis indicates that compared to Goldman Sachs' latest 12-month baseline return rate (up 4% from current levels), the upside potential is 6 percentage points, while the downside risk is 23 percentage points. The greater downside risk during a recession highlights the importance of seeking alpha investment opportunities within the region, rather than simply employing beta strategies.

Figure 13: Scenario analysis indicates that compared to Goldman Sachs' 12-month baseline return rate (up 4% from current levels), the upside potential is 6 percentage points, and the downside risk is 23 percentage points, suggesting a focus on alpha investments rather than beta investments.

Figure 14: Whenever the U.S. stock market pulls back by more than 10%, Asian stock markets also decline, with an average beta coefficient of 1.0.

7. Maintain a preference for allocations in mainland China and defensive positions

In light of the above analysis, Goldman Sachs maintains its allocation recommendations for markets and sectors.

In larger markets, Goldman Sachs is overweight on China (favoring A-shares due to their sensitivity to policy adjustments, valuation attractiveness, and ongoing corporate transformations) and Japan.

Underweight markets include Australia (low earnings growth, high valuations) and Taiwan (highest export dependence, facing risks of New Taiwan Dollar appreciation).

Neutral allocation markets include India (optimistic about its long-term domestically driven growth, but valuations are high) and South Korea (valuations are attractive, but sensitive to global cyclical changes).

Compared to commodities and global cyclical sectors, Goldman Sachs is more optimistic about the internet and defensive sectors.

Figure 15: Goldman Sachs expects that in the context of overall valuation stagnation, earnings will drive a 4% return over the next 12 months.

Figure 16: Goldman Sachs maintains a market view, leaning towards domestic and defensive sector allocations, and focusing on alpha investment themes

8. Key Themes

Goldman Sachs is optimistic about the following themes:

a) Maintaining resilience in a challenging macro environment, including domestic consumption and earnings quality;

b) Support from Chinese policies (consumption, new technologies, emerging market exporters, shareholder returns);

c) Sectors benefiting from artificial intelligence (including the power industry);

d) Shareholder returns (dividends and stock buybacks) and the defense sector (including aerospace and defense as well as the defense supply chain).

Given the increasingly evident trend of a weakening dollar, Goldman Sachs has also screened for beneficiaries and losers of dollar depreciation. The relative performance of these two categories of stocks is consistent with the trend of the dollar index (DXY).

Figure 17: The relative performance of beneficiaries and losers of dollar depreciation is consistent with the trend of the dollar index

Figure 18: Stocks that may benefit from a weakening dollar

Figure 19: Stocks that may be harmed by a weakening dollar