China’s weak growth signals short-term pain

Martin Lau, First State

China’s economy grew at 6.6% in 2018, the weakest growth since 1990. Martin Lau, co-manager of First State China Growth Fund, believes the most significant short-term risk to Chinese asset prices is the slowing domestic economy.

Property prices are weaker and a key indicator of wealth sentiment — sales of luxury goods — declined in the fourth quarter of last year, he added.

However, year-to-date, the MSCI China Index is up 6.85%.

“The recent rally in China shares despite downward revisions to growth is positive for the market,” Lau said. “A lot of bad news is priced in to share prices.”

Lau is less worried about the Sino-US trade conflict, reflecting that it is almost inevitable that the world’s two largest economies will find reasons to lock horns as they compete for political influence and commercial advantage. In fact, he argues that the current tariff dispute might help overhaul the inefficiencies of protected industries in China.

“Japan’s companies were compelled to become more productive and competitive when they faced similar protectionist headwinds from the US in the 1980s,” said Lau.

Lau said he is less concerned about short-term relative performance and instead aims to concentrate on absolute returns for three- and five-year periods. The focus is on bottom-up stock picking, valuations and company visits.

“Frenetic periods of greed and fear every couple of years shouldn’t distract investors from steady confidence in their sober-minded choices.”

He has also strayed from the fund’s benchmark, the MSCI China. The fund’s top holding (7.5%) in Tencent is less due to its prominence in the MSCI China index, and more to his positive view on the company, he said.

Key ratios used in his investment strategy include return on capital employed and operating cash flow, and more qualitative judgments are made on a company’s franchise and sustainability of its business model. He and his team make visits to companies to assess potential and existing investments, he said.

“A rigorous investment process is essential, especially as China’s economy slows,” he said.

FE Analytics has awarded him an alpha manager rating and four crowns for his China Growth Fund.

First State China Growth vs its benchmark and sector 

Source: FE Analytics. Three-year cumulative performance. In US dollars.