(Bloomberg) -- Chinese stocks are facing one grim milestone after another, with waning investor confidence signaling that things will likely get worse before getting better.   

Pessimism abounds as a sluggish economic recovery, weakening yuan and tensions with the US leave investors with little reason to buy. Some China bulls are now starting to retreat in frustration, trimming portfolio allocations and rotating to other markets as the next leg of the reopening rally remains elusive. That marks a sharp reversal from earlier this year, when almost all of Wall Street’s major banks made bullish calls on the market.

Down over 6% in May, the Hang Seng China Enterprises Index is one of the worst performers among 92 global equity gauges tracked by Bloomberg. The measure of Chinese shares listed in Hong Kong flirted with bear-market territory on Tuesday, when its losses since a late January peak reached 20%. The onshore CSI 300 Index wiped out all its gains for 2023 just a few days earlier.

“There is just no positive news out there and it’s really tough for investors,” said Willer Chen, a senior analyst at Forsyth Barr Asia Ltd. “The weak macro data for April serves as a wake up call for a lot of investors,” Chen said, and the “Sino-US relationship is not helping as no major ice-breaker has been witnessed.”   

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A slew of disappointing data from manufacturing to inflation have shown that the post-Covid recovery is sputtering, while tussles with the US continue to make investors wary. Further, the offshore yuan has weakened past 7.1 for the first time since November, deterring foreign inflows.

Global funds are on track to trim their holdings of mainland shares for a second straight month, something that hasn’t happened since the rout in October. Domestic fund sales have fallen to near levels seen after the 2015 market collapse as investors remain risk averse, Shanghai Securities News reported Tuesday. 

At least one mutual fund pledged to invest in its own equity product as stocks tumble, a reaction that echoed moves early last year by a number of large funds. China Southern Asset Management Co. said Tuesday that four portfolio managers have purchased 1 million yuan ($141,280) in each of their own products between May 26 and May 29, citing confidence in the long-term healthy development of China’s capital market, according to a filing.

Citigroup Inc.’s global allocation team cut its overweight rating on China to neutral on Friday, while Jefferies Financial Group Inc. strategist Christopher Wood reduced his overweight allocation on the market for the second time in under two weeks in the Asia Pacific ex-Japan model portfolio.

But as key stock gauges reach oversold levels, with their relative strength indexes hovering around 30, some are sensing a bottom.

“While we’re seeing impatient investors throw in the towel at this point, I think the selling is overdone,” said David Chao, global market strategist for Asia Pacific at Invesco Asset Management in Singapore. “China’s economy is not barreling towards a recession, as recent market movements would suggest.”

For Bank of America’s strategists, stocks are likely to see range-bound trading for now amid lack of direction. But low expectations also mean stocks could see a meaningful re-rating on any positive catalysts, strategists including Winnie Wu wrote in a note.

The HSCEI gauge ended up 0.5% on Tuesday after earlier falling 1%. The gauge has about erased half of its November-January reopening rally. The onshore CSI 300 Index eked out a 0.1% gain on Tuesday, reversing losses of as much as 1.2%.

While some sectors related to artificial intelligence and state-owned enterprises have seen bouts of rallies over the last few weeks, they haven’t been enough to lift the broader market.

All focus is now on the May reading of China’s manufacturing and services due Wednesday. Economists expect manufacturing to remain in contraction, while the expansion in services likely slowed.

Meanwhile, BNY Mellon Investment Management has also suggested a neutral positioning on China.

“Loss of macro momentum leads us to re-evaluate our overweight call on MSCI China,” Aninda Mitra, head of Asia macro and investment strategy at BNY Mellon in Singapore, wrote in a May 25 note. The MSCI China Index has already lost more than 20% from its January peak.  

--With assistance from Xiao Zibang, John Cheng and April Ma.

(Adds details about China Southern Asset in seventh paragraph)

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