Rising uncertainty drives defensive factors to dominate China A-share style performance

Overview

This report focuses on the quantitative style environment for China A-shares. UBS believes that market uncertainty increased in March, risk appetite weakened, and capital flowed more toward defensive and large-cap styles. On the macro side, the explanatory power of the US 2-year yield for market returns declined, while that of gold increased; on the market side, stock correlations and cross-sectional volatility both rose, indicating stronger macro co-movement, but the divergence also provides opportunities for active stock picking.

Core views

The core view is that under persistent geopolitical uncertainty, defensive factors continue to lead, while value and quality styles also perform well. Factors such as low price beta, low volatility, forward earnings yield, composite value, and dividend yield led in March; growth and momentum showed inconsistent internal performance, with fundamental growth and 3-month forward EPS revisions performing relatively well, while other growth factors came under pressure. In terms of valuation, China A-shares' overall 12-month forward P/E fell to around 14x, but IT and real estate remain in relatively overvalued territory.

Analysis framework

The report adopts a combination of top-down macro explanatory power analysis and bottom-up style factor performance analysis. The macro section uses rolling regressions to measure the explanatory contribution of the US dollar index, US 2-year yield, AAA spread, 10-year minus 2-year spread, gold, and crude oil to local market weekly returns; the market structure section observes pairwise stock correlations and cross-sectional dispersion; the style section compares long-short and long-only factor performance within MSCI China-A Onshore and related universes, and uses P/E distributions to assess the valuation status of different markets, sectors, and style baskets.

Methodology notes

• Macro factor regressionRolling 52-week weekly regression and adjusted R-squared contribution decomposition

  Macro explanatory power

  Regress local market weekly returns on the trade-weighted US dollar index, US 2-year yield, US AAA spread, US 10-year minus 2-year spread, gold prices, and crude oil prices, and observe changes in each signal's contribution to adjusted R-squared.

• Market structure analysis12-month rolling pairwise correlation

  Market resonance

  Use rolling 12-month weekly returns to calculate the average pairwise correlation across different stock or index universes; the higher the correlation, the stronger the influence of macro or common market factors on stock returns.

• Market breadth analysis1-month cross-sectional dispersion

  Stock-picking opportunities

  Use daily returns to measure cross-sectional volatility and return dispersion; the higher the dispersion, the greater the differences in individual stock returns, and the more room there may be for active and quantitative stock selection.

• Style factor analysisLong-short factor performance and valuation percentiles

  Quantitative style rotation

  Use long historical samples to compare the long-short returns of growth, momentum, quality, low risk, size, value, dividend, and cash flow factors, and combine them with market-cap-weighted forward P/E to observe style valuations.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• China A-shares

  Core market under research

  Strengths

  Overall valuation has fallen to around 14x forward P/E, and rising cross-sectional dispersion creates stock-picking opportunities.

  Weaknesses

  Risk-off sentiment dominates, and the market is more sensitive to geopolitical and macro variables.

  Comparison

  Compared with periods of stronger risk appetite, the market is currently more tilted toward defensive and large-cap styles.

  Risks

  Stronger macro co-movement may reduce the hedging effectiveness of diversified individual stock allocations.

• Defensive factors

  Tactically leading style

  Strengths

  Low price beta and low-volatility factors performed strongly, fitting an environment of declining risk appetite.

  Weaknesses

  If risk appetite rebounds quickly, defensive factors may lag high-beta or growth styles.

  Comparison

  Clearly outperformed momentum and some growth factors.

  Risks

  Crowded positioning may reduce future return potential.

• Value and earnings yield factors

  Stronger sources of return

  Strengths

  Composite value and 12-month forward earnings yield posted strong positive returns.

  Weaknesses

  Some value exposure may be concentrated in cyclical sectors or sectors with recovering earnings expectations.

  Comparison

  Outperformed most growth and momentum factors in March.

  Risks

  Downward earnings revisions or weakening macro demand could undermine the valuation recovery thesis.

• Quality factor

  An improving allocation direction

  Strengths

  The high-quality factor delivered nearly 5% positive return and was more favored in an uncertain environment.

  Weaknesses

  If quality stocks are richly valued, subsequent returns may be constrained by valuation.

  Comparison

  Performed better than most growth sub-factors.

  Risks

  Financial data errors, one-off corporate events, and changes in model assumptions may affect factor effectiveness.

• Growth and momentum factors

  Divergent and unstable styles

  Strengths

  Fundamental growth and 3-month forward EPS revisions still showed relative strength.

  Weaknesses

  Factors such as EPS Growth, composite momentum, and price momentum were weak or divergent.

  Comparison

  Overall less stable than defensive, value, and quality factors.

  Risks

  If the market remains risk-off, high-valuation growth styles may continue to face pressure.

Key data

• Overall valuation of China A-shares14x 12-month forward PEIn March, the valuation of the China A-share market declined slightly to around 14x 12-month forward P/E.
• Performance of the low price beta factorAbout 10% long-short return12-month low price beta was the best-performing factor in March, reflecting the dominance of defensive style.
• 12-month forward earnings yieldAbout 10% returnValue-related sub-factors continued to rise, with forward earnings yield showing strong performance.
• High-quality factorNearly 5% positive returnThe quality style improved significantly, with the high-quality factor posting nearly 5% positive return.
• Large-cap styleAbout 2% reboundLarge-cap stocks rebounded from previous lows, as capital favored more stable large-market-cap names.
• Low-volatility factorAbout 7.5% performanceVisual charts show the 12-month low-volatility factor delivered significantly positive performance, extending the defensive style.
• Composite value factorAbout 7.5% performanceThe sector-neutral composite value factor performed strongly, supporting the continuation of the value style.
• Information technology valuationHigher than other sectorsAt the sector level, information technology valuations remain higher than other sectors.
• Real estate valuationHistorical highReal estate sector valuations remain at historical highs.

Impact & implications

For portfolios, the report implies that before uncertainty fades, exposures to defensive, low-risk, value, earnings yield, quality, and large-cap factors may be more suitable as tactical allocation priorities. At the same time, rising correlations and dispersion together mean that simply relying on market beta has limited odds of success, and style selection and stock screening remain important. Growth and momentum factors require more refined decomposition and should not simply be increased across the board.

Risks

• Quantitative models rely on financial statements, market consensus expectations, and stock price data, and these inputs may contain errors or lags.
• The historical effectiveness of factors and the relationships among factors may change in the future; past performance does not guarantee future returns.
• Idiosyncratic corporate events may overwhelm the influence of systematic style factors.
• Geopolitics, sanctions policy, exchange rates, and interest rate volatility may alter market style preferences.
• Sectors or styles with higher valuations face greater drawdown risk when earnings expectations are revised down.

What to watch

• Whether gold's explanatory power for A-share returns continues to rise.
• Changes in the marginal impact of the US 2-year yield, the US dollar index, and spread variables on A-shares.
• Whether pairwise correlations among China A-shares continue to rise, to judge whether macro resonance is strengthening further.
• Whether cross-sectional dispersion remains elevated, to assess active stock-picking opportunities.
• The persistence of low price beta, low volatility, composite value, earnings yield, and high-quality factors.
• The risk of valuation pullback in highly valued sectors such as information technology and real estate.