CHINA’S benchmark stock index will trade weaker than current levels for much of next year as an official deleveraging campaign crimps credit growth and keeps interest rates elevated, according to Bocom International Holdings Co.’s Hong Hao.

The Shanghai Composite Index is expected to move between 2,800 and 3,900 for the next 12 months, with brief episodes of volatility driven by changes in liquidity conditions, Hong wrote in a research note to clients.

That compares with a current level of around 3,300. Large cap stocks have surged in 2017 and their valuations are approaching extreme levels, he added, predicting a “zig-zag” rotation into smaller peers.

Next year will again “prove to be a structurally diverging market, and traders will once again have to work within the constraints of limited liquidity,” said Hong, who distinguished himself as one of the few analysts to forecast both the start and 2015 end of China’s equity boom.

“Contrary to the experiences of 2017, small caps will likely be back in favor. Selective large caps should continue to do well, but the difficulty of picking the right stocks within this group will be increasing.”

China’s larger companies have outperformed on the mainland this year, with the CSI 300 Index surging 21 percent so far. The nation’s small-cap ChiNext Index — traditionally more vulnerable to tougher regulations and higher borrowing costs — has dropped almost 8 percent. Government efforts to cool gains in some top performers have hit sentiment toward domestic equities, while a bond rout driven by the deleveraging campaign has added to the pressure.

(SD-Agencies)