New Year Resolution?

The 5th of February marked the start of Chinese New Year, ushering in the Year of the Pig. Pigs are said to be generous and enthusiastic and though they may not stand out from the crowd, they are creatures of action rather than talk. So how are China-focused fund managers viewing the threat of trade wars, the current state of the Chinese economy and the prospects for their investments? The AIC has gathered comments from managers with significant proportions of their portfolios in the region.

Trade wars damaging but opportunities arise

Robin Parbrook, Fund Manager of Schroder Asian Total Return said: “We remain sceptical of any real let-up in US and China tensions despite Trump’s suggestions that a deal will be completed. As highlighted several times last year, it is clear that US-China tensions are not just about trade, but something much bigger. It involves US perceptions around China’s intellectual property theft, cybercrime, the way China projects its political and financial power via One Belt One Road and China’s desire to dominate key industries via massive state subsidies through Made in China 2025.”

Howard Wang, Fund Manager of JPMorgan Chinese said: “We believe we should see a resolution on tariffs as it is in the interest of both parties. However, the political dimension means we do not have strong conviction. We do think that domestic Chinese equities have discounted a very pessimistic outcome: both a trade war and growth slowdown. Consequently, we are beginning to see value in several areas
of the A-share market. Whatever the outcome of current negotiations we believe China and the US will increasingly compete in areas of technological innovation from electric vehicles to artificial intelligence.”

Suresh Withana, Managing Partner of Harmony Capital, the investment manager of Adamas Finance Asia said: “At a macro level, the trade war between the US and China has the potential to cause continued, serious, short-term global disruption. However, this disruption may have unexpected benefits for certain regional economies.

“For instance, companies may seek to shift production from China to other Asian countries. Furthermore, if volatility in public markets continues to prevail, we would expect to see both Chinese and Asian SMEs increasing their reliance on private financing sources as they will still require capital to fund ongoing regional growth opportunities. We believe the most exciting investment areas will be those driven by
intra-Asian consumption.”

Dale Nicholls, portfolio manager of Fidelity China Special Situations said: “While Chinese exports to the US as a proportion of their total exports globally have been falling for years as China has expanded its global reach and trading partners, increased tariffs will impact the export sector. Of greater concern is the broader impact on general sentiment and the prospect of delayed investment by Chinese companies in general. Despite the rumoured prospect of new trade concessions and a possible ceasefire between the two nations, we remain vigilant.”

“The trade war between the US and China has the potential to cause continued, serious, short-term global disruption. However, this disruption may have unexpected benefits for certain regional economies. For instance, companies may seek to shift production from China to other Asian countries.”

Chinese growth slowing but expected

Dale Nicholls, portfolio manager of Fidelity China Special Situations said: “China is facing a slowdown, but this is already well documented and the growth rates in China remain the envy of most economies. The authorities’ focus on deleverage has been the main catalyst for a slowdown as this has impacted access to funding and subsequently impacted business and consumer confidence. There has been slowdown in the rate of growth of consumption, particularly in larger durable goods such as cars. This has not been helped by falling markets and the sense that house prices have peaked. However, retail sales are still showing high single digit year-on-year growth despite the decline in car sales and, even with a general economic slowdown, the medium-term prospects for earnings growth remain strong.”

Mike Kerley, Fund Manager of Henderson Far East Income said: “Chinese growth is slowing although not by more than we would have expected. The rising base ensures that the growth of the past cannot be repeated, while the reforms of state-owned enterprises and the clampdown on non-bank credit will put pressure on growth in the short to medium term. These headwinds are being offset by measures to promote consumer spending and by tax cuts to corporates and individuals. This should be seen as a positive as the government pursues a policy of sustainability, rather than the old model of pump priming through debt-funded investment. Ultimately, the quantity of growth may slow but the quality will improve.”

Robin Parbrook, Fund Manager of Schroder Asian Total Return said: “The scope for China to undertake major stimulus measures is now much more limited – unless they wish to suspend the effective renminbi peg. We expect the Chinese economy to continue to slow in 2019 as a result of the authorities’ desire to rein in excessive leverage and bring shadow banking back to balance sheets. Given the pegged currency, a current account no longer in surplus and a leaky capital account, we view the monetary options as limited assuming devaluation is not considered an option – this would cause market chaos and global deflation.

“We do expect some fiscal measures to boostconsumption but given the size of the economy coupled with high housing and auto ownership rates, such measures are likely to have a limited impact compared with previous efforts. Our base case is for the Chinese economy to slow, but with debt effectively internalised, the immediate triggers for a financial crisis are unlikely to happen. However, one of the major tail risks we see for the Asian region, is a messy unwind of the renminbi peg.”

Suresh Withana, Managing Partner of Harmony Capital, the investment manager of Adamas Finance Asia said: “China’s SMEs already face a significant financing gap but we expect any slowdown in the Chinese economy to further restrict access to traditional financing methods. That being said, we would also expect to see some form of government intervention to increase domestic spending to counteract many of the effects of slower economic growth.”

Howard Wang, Fund Manager of JPMorgan Chinese said: “China has been on the path of slower, but higher quality growth for the last several years. Amid uncertainties in US-China
trade negotiations and domestic cyclical headwinds, the government has moderated the pace of financial deleveraging. We expect policymakers to continue to ease and to resort to more coordinated pro-growth policies on both monetary and fiscal fronts, to direct liquidity to the real economy and to cushion for growth. The personal and corporate tax cuts, along with more market-oriented reforms around resource allocation, should support domestic demand and private sector productivity. Given the current valuations and bearish sentiment, we are optimistic on the outlook of China equities, in particular onshore China equities.”

Market turbulence producing opportunities

Dale Nicholls, portfolio manager of Fidelity China Special Situations said: “Following a period of market volatility towards the end of 2018, activity in the portfolio has been focused on opportunities that arise during a period of indiscriminate sell-off. Certain sectors are particularly sensitive to market falls, such as insurance and investment companies.

“In many of these types of companies, valuations have dropped to historically low levels that significantly discount their attractive long-term growth prospects. When it comes to insurance,the sector is hugely underpenetrated relative to the West with demand coming from the growing middle class in China. With regards to securities, the long-term prospects in capital markets, particularly for institutions, make securities firms very attractive at these prices.”

Suresh Withana, Managing Partner of Harmony Capital, the investment manager of Adamas Finance Asia said: “2018 was a volatile year for Asian equity markets. However, we continue to see abundant investment opportunities in China and throughout the wider region, particularly in financing companies in the SME sector where there is a significant shortfall of fresh capital available to quality businesses.

“A key regional investment theme that we expect to continue in 2019 is the rise of an increasingly aspirational consumer culture and this should provide increasing SME investment opportunities in healthcare, tourism, consumer and retail businesses and education.”

Mike Kerley, Fund Manager of Henderson Far East Income said: “Around 25% of the portfolio is invested in China, as it is a country that we believe will only grow in corporate stature. Historically, Asia has generally been associated with the mass manufacturing of low-cost products. Now, however, this is changing. For the first time we believe China will spend more on R&D this year than the US and, within five
years, we think it may spend more than the US and EU combined. This is most prominent in newer sectors such as electric vehicles, renewable energy, healthcare, artificial intelligence and virtual reality – products and services we will embrace in years to come and have the potential to become part of our day-today lives.”

Howard Wang, Fund Manager of JPMorgan Chinese said: “We continue to find plenty of attractive investment ideas in consumer, healthcare, and technology. We have taken the market sell-offs as opportunities to add to quality, structural growth names in internet, software and healthcare services.”

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