China has it all these days – at least in terms of disturbing news.
From the spiralling debt problems at giant property developer China Evergrande Group and Beijing’s brutal crackdown on homegrown tech companies to power outages and the abrupt evisceration of the private-education sector, the country has rocked investors in recent months with one shock after another.
So has China become “uninvestable” for foreigners?
No, but outsiders have to be choosy, says Matthew Strauss, senior vice-president at CI Global Asset Management. The Namibia-born, South Africa-educated strategist has helped to lead CI Emerging Markets Fund to index-beating performance over the past decade. He insists tempting opportunities still exist in China.
To be sure, that is what one would expect an emerging-markets money manager to say, but Mr. Strauss is not afraid to put his words into practice.
His wide-ranging mutual fund (which recently introduced an exchange-traded version, CI Emerging Markets Alpha ETF) has more than 30 per cent of its portfolio invested in China. While that is down from 50 per cent last year, the substantial financial commitment demonstrates Mr. Strauss’s faith in the country’s ability to navigate its current storms.
“China has not lost control of the growth narrative,” he said in an interview. Upheavals or not, China will probably account for about a quarter of the global economy’s total expansion over the next few years. “You can’t ignore it.”
Beijing’s recent actions are not a repudiation of capitalism, he said. Especially in the case of Evergrande, the policy shifts are part of a well-telegraphed campaign to cool off the country’s red-hot housing market and force developers to reduce debt.
Evergrande’s problems may have surprised investors outside the country, but came as no shock to people closer to the action, he said.
The company’s share price hit the skids last year after Beijing announced property developers would have to meet a three-pronged series of financial-solvency tests known as the three red lines. Anyone familiar with the country’s housing market knew those tests would hit hard at Evergrande, the most indebted, or financially leveraged, of the big developers.
“What is happening at Evergrande is a very deliberate policy to de-lever [companies] and therefore de-risk a very, very highly leveraged sector,” Mr. Strauss said.
More worrisome is Beijing’s crackdown in recent months on domestic giants such as e-commerce titan Alibaba Group Holding Ltd., ride-hailing star Didi Chuxing Technology Co. and fast-growing delivery-service Meituan, with measures ranging from massive fines to abrupt rule changes. Even more disturbing is the attack on China’s vast private-tutoring sector. Regulators suddenly decreed in July that the industry would henceforth operate on a non-profit basis.
The rapid-fire actions have shaken foreign investors’ faith in the predictability of policy makers, Mr. Strauss acknowledged. But investors should be careful to understand the nuances, he added.
Beijing’s recent crackdowns are, in part, an effort to reduce monopoly power in the economy, encourage competition and advance a “common prosperity” agenda of reducing inequality. These are not necessarily bad things in the long run, although they are deeply unsettling in the short term.
What does all this mean for investors? For starters, it suggests they should avoid bottom-fishing among stocks clobbered by Beijing’s actions. “One has to be very careful of buying the dip” because of the policy uncertainty, Mr. Strauss said.
His fund, for instance, sees no appeal in the beaten-down education sector under current conditions.
In the case of e-commerce, it continues to hold some Alibaba shares despite a plunge of more than 40 per cent in the company’s share price over the past year. However, the fund has chopped its Alibaba stake out of caution about what additional policy measures may be forthcoming.
The fund also remains wary of Meituan. It initially sold its holdings of the delivery company, but as the shares tumbled in price this summer, it began to see them as good value. So the fund has bought back in, but now holds a smaller position than it did initially.
In contrast, the fund’s faith in Tencent Holdings Ltd., the Chinese internet giant, never wavered. The fund continues to hold a “very sizable” position in the stock based on a belief in the company’s impressive technology.
Moving beyond the big names, the fund sees the most tempting value in smaller companies in areas favoured by Beijing’s policy shifts – areas such as electric vehicles and automation.
Another favourite is Sany Heavy Industry Co. Ltd., a maker of heavy equipment, notably excavators. The company has carved out impressive market share, particularly in emerging markets. “Longer term, they can compete with the best products anywhere, especially in excavators,” Mr. Strauss said.
The two key questions investors should ask when evaluating Chinese stocks, he said, are whether a company can still grow after recent policy changes, and whether regulatory risks are already priced into its stock.
“We think opportunities are still there but it has become more difficult to discern what is true value and what is likely to become a value trap,” he said.
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