Newsletter commentary Oct 2019

During October we kept actively investing. The richness of our portfolio also improved, which was supported by our internal research efforts. 

This month we wanted to share our following thoughts. 1) we celebrated the 70th anniversary  of our motherland in October. In the backdrop of an unstable external environment, there is a flush and wide spread of sense of pride and hard-won cherish in China. Such spontaneous sense of pride and cherish will help us to form consensus, which probably give more operating space to realize all kinds of good long term objectives.

2) In October, World Bank released its annual “Doing Business” report. China’s ranking improved the most among major economies, up from 78th in 2017, to 46th in 2018, to 31th this year. Recently State Council published the “Business Environment Optimization Act”, which will be implemented from January 1st, 2020. We are optimistic about the sustainable and rapid improvement of a world-class business environment established on market principles and the rule of law. For many entrepreneurs who operate cross borders, stable business environment has become a somewhat luxury. In the past decades, China has proven to be a capable provider of such public goods, and has kept improving. Another recent report from Credit Suisse shows that China has for the first time exceeded the US in terms of the total number of high net worth individuals who rank top 10% globally. We believe China still has great potential both from supply and demand side.

3) Looking at Q3 earnings results, China’s economy is still facing pressure. More than 50% of the sectors we cover were under top line and bottom line pressure compared with the first half of the year. About one third sectors, mostly upstream sectors, had negative bottom line growth. In the meantime, the performance dispersion within sectors started to manifest, even in those outperforming sectors in the first half of year, such as Baijiu sector. Although for those favorite companies by the market, they still seem to maintain the stable growth. The earning growth in SSE50 and CSI300 in the last three quarters has been 12.1%, 11.3%, 9.8% and 11.2%, 11.5% and 11.3% respectively. 

4) Pursuing steady growth has become a more important task. From May to July, there was change of the trading environment, the tightening of the property financing, and the decline of the PSL. All of above made the economic pressure during May to August an expected one. The real tightening in the short term had made market skeptical about the effect of the government’s counter cyclical measures. We have noticed the inventory level has decreased to an extremely low level,. In fact, those counter cyclical measures to mitigate external pressure have continued, and become more obvious since August. Those measures include downward adjustment of short term interest rates, reopening of PSL and acceleration of issuance of special purpose bonds. Although there’s pricing pressure of pork price, the direction of the counter cyclical measures is unchanged. Policy wise, there is more reliance on the fiscal spending. There are signs of positive changes in September. We look forward to the stabilization and recovery of the economy.

Coming back to the market, the theme based investment concepts have enjoyed shorter time span in terms of the “hotness”. This is a sign that market is maturing. Registration based IPO system will be broadened to the wider markets. Those regulatory changes under discussion related to the stock stake reductions will not have impact on value investing. If a stock is not overvalued, there would not be pressure in the stake reduction in the first place. Further penetration of the distribution channels, more transparency of the disclosure, and change of the taxation system will accelerate the formation of a united market place. This in turn will increase the industry concentration level. Continuous R&D spending will help make better products and services. Moreover, longer term strategic vision, execution mechanisms and more effective way of reaching customers will have bigger effect on companies’ long term value. Finally, there will be some changes when the economy stabilizes and turn upwards.