Foreign investors and asset managers are showing a positive outlook on Chinese equities this year amid a consensus that improved profits — a result of continued investment in technology and economic recovery buoyed by supportive policies — will make a big difference in the Chinese stock market.

In a note released on Thursday, James Wang, head of China equity strategy research at UBS, wrote that the A-share indexes still have room for a 20 percent increase this year once China enters a reflation cycle.

Research by UBS analysts shows that prices in China may increase by 2 percent this year, following a decline of 3 percent last year.

According to Wang, there are already signs that profits at A-share companies are improving, and this is expected to lay the ground for accelerated salary increases.

Given the relatively lower market expectations and investor exposure at present, some listed companies in the consumption space may be the early beneficiaries of this reflation cycle, to which the Chinese government has paid much attention, Wang said.

Laura Wang, Morgan Stanley's chief China equity strategist, also said that improved profitability has been the major reason for the increased valuation of Chinese assets this year.

Public companies have continued to step up their capital expenditure in research and development, retaining their global competitiveness in artificial intelligence and high-end manufacturing. Meanwhile, a stabilizing property market, an anticipated inflection in the consumer market, and support from fiscal and monetary policies will facilitate the improvement of companies' profits, according to Wang.

While the $14 billion net inflow into Chinese stocks was a highlight last year, China's resilient and irreplaceable industrial chain — which has stood out despite global uncertainties — will be a key support for renminbi assets this year. Unique investment opportunities in the Chinese high-tech sector have also drawn the attention of investors worldwide, she said.

Data from the Singapore Exchange showed on Friday that global demand for Chinese assets remains strong.

CSOP's newly released ETF tracking the CSI A500 index, a key channel for global investors to access large-cap Chinese stocks, recorded net inflows of S$48 million ($37.91 million) in January, ranking fourth among all ETFs. This contributed to a record-high monthly turnover of S$65 million for SGX-listed equity ETFs.

According to Zhu Liang, chief investment officer for asset manager AllianceBernstein in China, foreign investors still account for less than 10 percent of all A-share market investment, which means that this ratio can be further lifted.

Noticeable changes have been made on corporate governance among A-share constituent companies, with the rising stock dividend payment rate being one good example. Foreign investors will increase their exposure as long as A-share companies continue to optimize their corporate governance policies, he said.

Zhu added that the Chinese stock market has entered a phase of growth, during which improving profitability will underpin an upward market. The optimized industrial structure will be especially worth noting, as it will not only indicate better balance sheets but also sustain the momentum propelled by higher profits.

In anticipation of a moderate increase in prices this year, industrial companies are likely to see their profits move out of the low range seen in recent years. Meanwhile, Chinese companies may accelerate their outbound reach, which will further open up room for profit increases, he said.

More important, Chinese companies are competitive in the global AI race, thanks to their rich talent supply, large market size, sufficient power supply at lower costs, vast application scenarios and policy support. Companies representing future sectors, such as innovative medicine and AI, have demonstrated long-term investment value, said Zhu.