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China, Today

The China Update: Chinese equities - Finding alpha in the ‘old’ and ‘new’ economies

13 März 2018
Opportunities abound, at good valuations

We believe the Chinese market offers good long-term investment opportunities, across both the ‘new’ and the ‘old’ economy. Not only do Chinese equities offer superior long-term earnings growth potential, they currently trade at a discounted valuation to developed markets.

Figure 1: ‘New’ economy revenue growth is strong and ‘old’ economy is improving
A-share sales growth YOY

Source: Wind, 30 June 2017

The ‘new’ economy offers growth

We see compelling growth opportunities in ‘new’ economy sectors, whose markets remain significantly underpenetrated compared to developed markets. New economy sectors such as consumer, technology, internet and healthcare, have experienced steady growth and increasing returns.

The ‘old’ economy offers value in recovery and reform

We also see opportunities in the ‘old’ economy where we recognise the potential for improving profitability from industry consolidation, cost-cutting and supply-side reform. Old economy sectors such as banks, real estate, commodities, heavy industrials and utilities, are recovering, while capital expenditure has not increased for several years. This has encouraged old economy corporates’ free-cash-flow-to-equity-holding metric to improve and leverage to decrease, creating interesting value investment opportunities for equity investors.

Inefficiency generates opportunity

China’s domestic equity market demonstrates all the characteristics of a highly inefficient market. We think there are two main reasons for this: market structure, and data quality/availability. Retail investors dominate the A-share market, representing over 80% of the daily trading volume. Retail investors exhibit more short-term behavioural biases. They are heavily influenced by short-term news flow, making the market more volatile than one driven by institutional investors.

Figure 2: Trading volume of investors in China's A-share market

Source: CICC, Shanghai stock exchange, June 2017

The reliability of China’s official economic statistics has long been questioned by the investment community. In addition, the market is relatively under-researched by institutional sell-side brokers.

The relative inefficiency of Chinese equity markets creates an opportunity for disciplined bottom-up investors who favour a long-term investment strategy, like the 4Factor™ process.

The efficacy of this investment process has been demonstrated through the strong alpha generation exhibited by the Investec All China Equity strategy over the last three years.

A history of outperformance

Our 4Factor™ All-China strategy has consistently outperformed its index since inception.

Figure 3: Annualised (Gross) performance in USD*

  2014 (Mar) 2015 2016 2017(YTD)
Strategy 28.8% 11.8% 3.5% 52.4%
Comparison index** 34.8% 1.8% -12.2% 28.1%
Relative performance -6.0% 10.0% 15.7% 24.4%

Past performance is not a reliable indicator of future results, losses may occur.

Source: Investec Asset Management, 30 September 2017. Performance is gross of fees (returns will be reduced by management fees and other expenses incurred relative to its advisory account), income reinvested, in USD. The periodic deduction of fees and expenses will have a compounding effect on performance. Example effect of management fees taken monthly over 10yrs on the value of a client’s portfolio: Initial value = $100m, assumed return = 10% p.a., grows to $259m (no fees), grows to $241m (0.75% p.a. net fees). The annualised returns over 10yrs are 10% (gross of fees) and 9.18% (net of fees).
* 4Factor™ All China Equity Strategy inception date: 01 March 2014.
** Comparison index: MSCI All China NR. For further information on indices, please see the Important Information section.

Why Investec for Chinese equities?

  • Invests in Chinese equities listed anywhere to maximise exposure to ‘best ideas’.
  • Managed using the disciplined 4Factor™ investment process, which combines both traditional and behavioural investment factors.
  • Specialist team with a strong track record of picking stocks in China.
  • We believe our global perspective enhances analysis of Chinese stocks.
  • High conviction portfolio: style and size agnostic with no benchmark constraints.

Specific risks

Geographic / Sector: Investments may be primarily concentrated in specific countries, geographical regions and/or industry sectors. This may mean that the resulting value may decrease whilst portfolios more broadly invested might grow.
Currency exchange: Changes in the relative values of different currencies may adversely affect the value of investments and any related income.
Developing market: Some countries may have less developed legal, political, economic and/or other systems. These markets carry a higher risk of financial loss than those in countries generally regarded as being more developed.
Investing in China: Investment in mainland China may involve a higher risk of financial loss when compared with countries generally regarded as being more developed.
Equity investment: The value of equities (e.g. shares) and equity-related investments may vary according to company profits and future prospects as well as more general market factors. In the event of a company default (e.g. bankruptcy), the owners of their equity rank last in terms of any financial payment from that company.

The content of this page is intended for investment professionals only and should not be relied upon by anyone else

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