This is for wholesale clients only and should not be relied upon by retail clients.
JANUARY 2015
FIDELITY CHINA FUND
Cyclical Headwinds, Structural
Tailwinds
Jing Ning remains positive on the long-term outlook for structural
growth in China and expects 2015 to herald the start of a full
implementation of reforms. She also believes that ‘One Road, One Belt’
could be one of the most important policies in a generation, not just for
China, but for the Asia region.
THE CHINESE MARKET ENDED 2014 ON A HIGH. CAN THIS CONTINUE?
I think the Chinese market rally, triggered by the People’s Bank of China (PBOC)
cutting rates, the launch of Shanghai-Hong Kong Stock Connect and falling energy
and commodity prices (China as consumer for these will see net benefit), still has more
to go. However, it will not maintain the pace of the last quarter and it will be volatile.
The market still offers plenty of value to investors, but I expect swings in sentiment
driven by positive structural news, yet tempered by negative news in cyclical areas of
the market. Nevertheless, the implementation of reform and investment projects will be
a net positive for the market over the longer term.
Taking a high-level corporate view, 2014 top-line growth was generally weak as
corporate investment demand lagged and the property investment cycle was still
falling. I expect this challenging environment to continue in the first-half of 2015 as the
investment cycle remains soft. However, in 2014 the government approved many
projects but only the railway sector saw any real implementation. As 2015 progresses I
anticipate approved projects in areas such as the national grid to start, and this could
lead a meaningful recovery of economic activity in the second half of 2015.
I also anticipate a pick-up in profits in 2015 due to falling commodity prices. I already
see this in early indicator sectors such as steel. Also, from my company meetings I see
supply/demand rebalance in mid-sized downstream/supplier companies, which is
positive for margin growth. Over the last couple of years, large companies cut their
production which had a big impact on their suppliers, and at the same time banks cut
credit lines. This meant suppliers slashed production and the weaker companies were
forced out of the industry. However, we are now at a point where demand outstrips
supply and those still in business will gradually regain their pricing power and the
ability to increase margins.
Finally, I think monetary policy will continue to be supportive. Deflation is becoming an
issue for the PBOC for the first time amid falling commodity and property prices.
Therefore, I expect rates to fall further, which is positive for the markets.
THE RECENT RALLY WAS ESPECIALLY PREVALENT IN A-SHARES. YOU HAVE
LARGE A-SHARE EXPOSURE VERSUS PEERS, SO ARE YOU MAINTAINING
THIS?
A-shares are a major focus for me as I find many undervalued opportunities. As we
entered Q4 2014 I held 12.4% in A-shares. I trimmed A-share holdings in to recent
market strength, but given the scale of the rally I still hold 13.9% in my portfolio.
Having recently reviewed these holdings I remain comfortable because they are not
expensive. The broadening of the Stock Connect programme to include the Shenzhen
Exchange and the possible inclusion of A-shares in to MSCI indices (there will be a
review in mid-2015) are potential catalysts for another rally. Also, the recent sell-off
following the three-month suspension of new margin finance accounts at the big three
Chinese brokers has been a buying opportunity. My A-share holdings include Gree
Electrical Appliances, China Vanke and railway names China CNR and Daqin Railway.
JING NING is the portfolio manager of
Fidelity China Fund and is based in
Hong Kong.
Jing has over 15 years of investment
experience and joined Fidelity in 2013
as a Portfolio Manager. Prior to joining
Fidelity she was a China Portfolio
Manager for five years at Blackrock.
Before Blackrock, Jing was the Head
of Chinese Equities at AIG
Investments in Shanghai.
Jing graduated from Tsinghua
University, Beijing. She also holds an
MBA from the University of Rochester,
USA and is a CFA Charterholder
Jing’s bottom-up approach focuses on
determining the intrinsic value of a
company rather than identifying
investment themes. She has a value
bias and contrarian approach that is
reflected in the fund’s positioning.
WHAT ARE THE CYCLICAL HEADWINDS INVESTORS SHOULD BE AWARE OF?
There are cyclical issues that are weighing on market sentiment. The most prominent
of these are falling property prices, oversupply in heavy industrial products (cement,
paper, etc), slowing consumption and the restructuring of LGIV. Each is a risk, but
manageable. Property prices have been falling but underlying demand is still there.
Urbanisation is still a main focus for China’s leadership, and this is providing price
support as oversupply is bought as prices drop. This means inventory is being run
down and we are getting closer to a new property investment cycle. Oversupply of
heavy industrial goods is something that needs to be addressed and I would like to see
the most inefficient producers be allowed to go out of business.
Slowing consumption must also be monitored, but the government is still committed to
shifting to a consumption-led economic model and it will continue to implement
favourable consumption policies. However, such policies will likely focus on massconsumption rather than luxury given the anti-corruption campaign. Central
government is also determined to clean up the local government debt situation and
provincial governments are now in the process of restructuring LGIVs. There may be
risk of some local government defaults in 2015.
WHAT ARE THE STRUCTURAL TAILWINDS?
2015 is the third year of the current government’s reign and I think it will be
characterised by the implementation of reform. In Xi Jinping’s first year in charge he
excited the markets by announcing a high level vision for reform, including changing
the hukou system and one child policy. His second year has been dominated by an
anti-corruption rhetoric, which despite acting as a form of austerity, has enabled the
government to build a general consensus on reform. Now the right people are in place
and high level changes have broadly been accepted, 2015 should see the start of real
implementation. This will take many different forms, but fiscal and monetary policy,
SOE and rural land reform will probably be the most significant stories for 2015.
To give examples, we have just seen: the government introduce a pilot programme in
Shenzhen that allows power companies to sell direct to consumers and have more
control over their tariff; the National Development and Reform Commission (NDRC)
issued a statement on the liberalisation of drug pricing; and the NDRC is starting to
allow prices in railway rolling stock and freight cargo to freely float. The government is
trialing such reforms in different cities and regions in order to understand their impact
and tweak policy before incrementally rolling these out across the country. Because
these are small steps they do not generate attention grabbing headlines, hence it is
often missed by investors. However, when taken in aggregate and assessing the
impact this could have on the economy over the next few years, I strongly believe that
the foundations for companies to grow is attractive and underappreciated.
WHAT ABOUT ‘ONE ROAD, ONE BELT’?
‘One Road, One Belt’ could be one of the most important policies in a generation, not
just for China, but for the region. Essentially, its aim is to re-establish the ancient land
and maritime trade routes (e.g. Silk Road) in the Eurasian continent, with China at the
hub. Apart from China physically being at the centre, the aim will be to ingrain its
companies, products and monetary power within the region. It is a concept of exporting
expertise and RMB, and in recent meetings with companies across many industries
‘One Road, One Belt’ is a buzz phrase.
The most obvious manifestation is that China will help build infrastructure across
Eurasia (and possibly in to Africa), and financially support these projects by offering
RMB loans, which lessens the importance of US dollars. China can then use these
routes to export goods and offer linked services.
For example, I met a pharmaceutical company in Shenzhen and they are already
investigating how to tap new markets on the back of this. The caveat is that we are
currently light on detail as to how this will work, but there is strong support from the
government. From an investment perspective, areas like railway manufacturers could
be long-term winners. However, because this is early days I think of ‘One Road, One
Belt’ as a call option for some of my construction and infrastructure holdings.
HOW DO YOU POSITION YOUR PORTFOLIO UNDER THE CURRENT MARKET
CONDITIONS?
I take a value approach and look for high quality business models and management
teams that are out of favour due to short-term macroeconomic or company-specific
reasons. As a result, I hold a significant overweight in mass-consumer names as the
anti-corruption measures have indiscriminately impacted in the entire consumer sector.
I have also been adding to consumer staples.
As mentioned above, I still find value in A-shares and see general demand for this
market growing. I am neutral financials, but there is a clear distinction of being
underweight banks and overweight real estate and insurance. Banks still have NPL
issues that need to be addressed, but the insurance sector remains underpenetrated
and will see more policy support.
IT remains a large underweight as I think valuations price in a blue sky scenario, yet
many of these businesses models are untested. Meanwhile, I favour stocks that I think
can benefit from the implementation of reform, such as railway companies.
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