China equities: 10 questions on 2020 strategy

Bin Shi, Head of China Equities, just got back to Hong Kong from client visits and conferences around Asia. Here are the 'top-of-mind' questions from clients that he answered on the way.

1. Will the US-China trade conflict impact China's long-term goal of shifting to a consumption-and-services based economy?

Rivalry between the US and China will continue for years, if not decades, and that's something we will all have to recognize.

But China's transition began well before the start of trade tensions. It will likely speed up because China's government will look for ways to reform the economy and continue the shift towards consumer and services-driven growth.

2. Will trade tensions impact China's drive to increase its tech prowess?

There may be some impact but in the long-run Chinese companies will reduce their dependence on US technology and increase their own domestic capabilities.

In fact, that’s what is happening now. I'm seeing clear efforts by Chinese companies to increase their own tech capabilities.

Look at Huawei, their base stations don't need any US-sourced components, and I think it is only a matter of time before their handsets will do the same.

Watch Geoffrey Wong discuss trade tensions and China innovation here:

3. Quotas were recently removed on QFII – is this policy move significant?

It's a symbolic change.

What's important is that it sent a message to the world that the Chinese government is dedicated to opening up onshore capital markets.

Overseas Investors' Onshore Holdings (RMB Trillions), Jan 2016-Sep 2019

Source: People's Bank of China, October 2019

4. What's the 'secret sauce' – the key to your success over the years?

Everything we buy everybody can buy. The difference comes from three things: clear investment philosophy; robust processes; and a strong team. That's our 'secret sauce.'

5. You've continue to like Yihai, a seasoning and condiments company, why?

Hotpot is a very traditional business, and Yihai supplies condiments to its parent company Hai di Lao, which is one of the largest and most well-known hotpot chains in China.

We see Yihai as attractive for a number of different reasons: first, it is exposed to one segment of growing consumer demand in China; second, it is associated with a company that has a very strong brand and business model; third, it is a very well-run business and, finally, it operates in a very fragmented market, so there's a lot of room for that company to grow by taking market share in the future.

6. Kweichow Moutai remains a key holding for you. Aren't you concerned it is overvalued?

I'd be concerned if the company's fundamentals were looking weak, but they are not.

The key for us is to look at fundamentals and earnings growth.

The company continues to grow well backed by strong demand and the premium brand enjoys the cream of the crop.

We're confident this will remain the case in the coming years and Moutai will perform well against competitors. So from this point of view, we don't think the company is overvalued.

Kweichow Moutai produces baijiu, learn more about baijiu here:

7. You have held Jiangsu Hengrui for a while, why do you continue to be positive on the company?

There are lots of reasons, but two stand out.

Firstly, they invest a lot in R&D and they have one of the strongest research teams compared to competitors.

Secondly, they have a well-run sales and distribution system. China is diverse, with cities and markets of all different kinds, so you need a strong sales team to adapt to different markets, and we believe Hengrui is stronger than both domestic and foreign competitors in China.

8. Has the recent unrest impacted the Hong Kong equity markets, and will it have a future impact?

It has a very bad impact on the Hong Kong economy, and we can see that in the recent economic data releases, with reduced tourism and spending.

For example, below our office we have a shopping center where world-famous retailers have some of their biggest grossing stores globally setup there. I pass by them daily on my way to work, and I roughly estimate they have been forced to close for five days in November.

But it's unlikely to impact the stock markets that much. 70% of companies on the Hong Kong stock market are mainland Chinese companies, who have their teams, assets and operations all in China, and we see little direct impact on the Hong Kong equity markets from the recent unrest in Hong Kong.

9. You keep saying quality is going to be important in 2020, why?

We expect further divergence between good and bad companies in China, and that's why it will be crucial to focus on the highest quality companies in the market.

We do that by taking a bottom-up approach to research: i.e., visiting companies, interviewing suppliers, talking with employees, surveying customers, and evaluating firms etc according to strict criteria.

And this approach will continue to be the way we create value for our investors in the year ahead.

Many sectors in China remain fragmented. As competition rises, there's potential for top quality companies to grow market share.

10. You are positive on the market in 2020? Why?

We are constructive on China equities going into the new year. There are solid companies within our investment universe that we believe will continue to deliver resilient earnings growth.

Moreover, we witness more quality companies coming into the public market, which may not be well-understood by the investors.

On the policy front, while we do not expect the Chinese central government to roll out a large scale stimulus package next year, policies will likely be supportive and targeted. Reform of state-owned enterprises (SOEs) can be a potential wild card that could unlock hidden value in many Chinese SOEs.

On the other hand, the development on the US-China relations remains uncertain and our view is that the rivalry will run for a longer period of time.

That said, the China portfolios are oriented to domestic consumption and have little direct exposure to industries impacted by the tariffs.

Overall we maintain our focus on long term themes, such as China’s rebalancing into services and consumption, increasing share of discretionary spending and premiumization, increasing spending on R&D and technology leading to innovations and market consolidation within segments.

Learn more about Bin Shi's 2020 strategy here:

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