China's industrial profits fall further in June

China's industrial profits continued their decline in June, falling 4.3% year-over-year, contributing to a 1.8% decrease in the first half, as entrenched producer deflation and intense price wars exacerbated by subdued domestic demand squeezed margins. While Beijing has pledged tougher regulations and potential capacity cuts to address overcapacity and aggressive price-cutting, analysts caution that these measures may not quickly resolve the deflationary environment.

Analysis

China's industrial profits continued their decline in June, falling 4.3% year-over-year, which contributed to a worsening 1.8% drop for the first half of the year. This deterioration is primarily driven by entrenched producer deflation, which reached its most severe level in nearly two years, squeezing corporate margins amid subdued domestic demand and intense price competition. The data reveals a significant divergence in performance: state-owned firms saw profits plummet by 7.6% in the first half, while private-sector and foreign firms posted modest gains of 1.7% and 2.5%, respectively. This suggests that state-owned enterprises, particularly in sectors with overcapacity like automobiles where firms like Guangzhou Automobile Group and JAC Group expect record losses, are the main drag on the aggregate figure. While Beijing has pledged to regulate aggressive price-cutting and stimulate demand through programs like a vehicle trade-in scheme, analysts remain cautious, warning that these supply-side reforms may not resolve deflationary pressures as quickly as in the past due to modern challenges such as potential job losses.

Key Decisions for Investors

• Investors should maintain a cautious stance on broad exposure to China's industrial sector, given the persistent deflationary pressures and weakening profit trend, particularly within state-owned enterprises.
• A selective investment approach is warranted; consider overweighting private and foreign-owned industrial companies that have demonstrated resilience and profit growth, while underweighting or avoiding state-owned firms in sectors plagued by overcapacity, such as automotive manufacturers.
• Closely monitor the effectiveness of Beijing's regulatory interventions against price wars and the impact of consumer stimulus measures, as these policy actions will be critical drivers for any potential profit recovery in the second half.