The world's lowest valuation: Is Chinese consumption about to reverse? UBS: Alpha is hidden in these sectors.

The valuation of China's consumer sector has reached a global low. In its latest report, UBS pointed out that under the current environment, investment opportunities lie in hidden "alpha" opportunities within specific tracks and companies.

According to Chase Wind Trading Desk, UBS's China consumer industry report released on November 18 clearly stated that the attractiveness of Chinese consumer stocks' valuations can no longer be ignored. The MSCI China Consumer Discretionary Index and Consumer Staples Index have 12-month forward P/E ratios that are about 40% and 10% lower, respectively, than their global counterparts. So far this year, the MSCI China Consumer Discretionary Index has recorded a 35% return, essentially in sync with the MSCI China Index’s 38% increase.

Against this backdrop, the core of UBS’s strategy is “finding Alpha.” UBS is optimistic about sub-sectors such as restaurant franchising expansion, innovative products, trendy toys, and pets. Yum China and Mixue Bingcheng, relying on asset-light models, have strong store growth potential, while whiskey and trendy toys are emerging as new blue oceans. Domestic pet consumption also demonstrates resilience, and leading companies in this area are considered to have solid long-term growth prospects.

Valuation Low Point Emerges, New Models Seek Alpha

UBS report data shows that the valuation of China’s consumer sector is at a low, both historically and compared globally. The consumer discretionary sector’s 12-month forward P/E is about 40% lower than the global average, and the consumer staples sector also enjoys a 10% discount.

The 35% year-to-date increase in consumer discretionary indicates that investors hold higher expectations for areas related to travel and entertainment. In contrast, consumer staples posted a modest 10% gain.

Against the challenges faced by the consumer industry, expanding against the trend through business model innovation has become a key signal for UBS in identifying Alpha opportunities. Among these, accelerating the adoption of asset-light franchising models is helping certain restaurant brands break through traditional expansion bottlenecks.

UBS views Yum China as a typical case and believes the market underestimates its potential to achieve the goal of over 20,000 stores through franchising. The report’s scenario analysis projects that by 2030, Yum China could reach a total of 30,000 stores. The major driving force behind this growth will be new store formats like KFC Mini and Pizza Hut WoW, which have initial capital expenditures of around RMB 500,000–650,000, only half of a standard store, significantly lowering the entry barrier for franchisees and aiding penetration into lower-tier cities.

The same logic applies to Mixue Bingcheng, which UBS upgraded to a "Buy" rating. The report raises the long-term potential for its domestic stores by about 28% to 80,000, believing there is still significant room for densification and penetration in lower-tier cities. Mixue Bingcheng’s “Lucky Coffee” is also seen as a new growth engine; UBS Evidence Lab data shows that this brand has become the third most popular coffee brand after Luckin and Starbucks in third- and fourth-tier cities.

Product Innovation Opens Up Blue Oceans: Whiskey and Trendy Toys Tap New Tracks

In addition to business models, entering new tracks with structural growth potential is another big theme that UBS believes can create Alpha. Some companies, through forward-looking layouts and product innovation, are taking advantageous positions in new “blue oceans.”

UBS upgraded Barun Co. to a Buy rating due to the huge potential of its whiskey business. The report points out that the Chinese whiskey market is experiencing a shift in consumer preferences, particularly favored by women and young middle-class consumers in tier-three and lower cities, and is gradually diverting from the traditional baijiu market. UBS Evidence Lab’s consumer survey also confirms that whiskey is the only category of alcoholic beverage showing a rising consumption intention. The report believes Barun is well-positioned to capture this strong demand thanks to its local production capacity, channel synergy with its ready-to-drink cocktail business, and more competitive pricing strategy.

Pop Mart, a trendy toy company, is another example. Its third-quarter revenue surged 245%-250% year-on-year, with strong performance in both domestic and overseas markets. UBS is optimistic about its strong IP portfolio and monetization ability, and highlights its overseas expansion opportunities, especially in the U.S. market. The report believes that as the popularity of the Labubu series stabilizes, new IP “Twinkle Twinkle” is emerging as a rising star, compounded by catalysts such as the upcoming Christmas season, which may drive stock price momentum.

The pet economy shows cyclical resilience. According to data cited in the report from the "White Paper on the Pet Industry," in 2024 the size of China’s pet food market grew 8.5% year-on-year, outpacing the overall pet industry. At the same time, consumer confidence in domestic brands is increasing, providing a solid foundation for local leaders such as Zhongchong Co., which UBS rates as “Buy.”

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The above highlights are from Chase Wind Trading Desk.

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