Upload
others
View
3
Download
0
Embed Size (px)
Citation preview
©2016
MatMar
The f
China
tradin
Matth
the co
David
Andy
Teres
Andr
Q: W
sharp
volat
Andy
excha
China
circui
regula
do no
the m
bigge
servic
The A
has n
It is e
driven
part o
than t
peopl
6 Matthews Inte
tthews Asrket Even
first week of
a’s stock mark
ng, with repe
hews Asia exp
ontext of the ov
d Dali, Client P
y Rothman, In
sa Kong, CFA
rew Mattock,
What do you th
p drops in Chi
ility say about
y Rothman: I t
ange rate was t
a, compounded
it breaker, whi
ator. I believe
ot reflect new w
macro data has b
est part of the C
ces sector, rem
A-share market
ever been an a
especially volat
n by small-sca
of the economy
the private and
le, drive consum
ernational Capita
sia Analynts in Chin
the New Yea
kets, triggerin
ercussions in
erts share their
verall health of
Portfolio Strate
nvestment Strat
A, Portfolio Ma
CFA, Portfolio
hink were the
ina’s stock ma
t the Chinese
think volatility
the key driver o
d by a poorly d
ch was subsequ
very strongly t
weakness in the
been stable in r
Chinese econom
mains very healt
t, the main dom
ccurate reflecti
tile due to the f
le retail investo
y, namely state
d service sector
mption and gen
al Management,
sis of na
ar saw a prec
g a “circuit b
markets arou
r perspectives
f China’s econ
egist
tegist
anager
o Manager
causes behind
arket, and wh
economy?
y in the Renmin
of retail investo
designed A-sha
uently elimina
that this volatil
e Chinese econ
recent months,
my, the consum
thy.
mestic stock ma
ion of the Chin
fact that it is ve
ors and too foc
-owned compa
r firms that emp
nerate growth.
LLC
cipitous drop i
breaker” to ha
und the globe
on this event i
omy.
d the recent
at does this
nbi/U.S. dollar
or anxiety in
are market
ted by the
lity and anxiety
nomy. In fact,
, and the
mer and
arket in China,
nese economy.
ery much
cused on the ol
anies, rather
ploy most
in
alt
e.
in
y
,
ld
I also
the Ch
primar
macro
poor c
exchan
on the
There
volatil
As for
decele
than th
Teres
reacte
well. I
Asian
beginn
in the
but tha
debt.
To An
includ
about
chang
the cu
means
manag
prepar
Renm
relativ
don’t think tha
hinese governm
rily by the doll
oeconomic wea
communication
nge rate policy
e part of the Ch
is no sign of th
lity are very hi
r the overall ec
erate this year,
he three previo
sa Kong: It’s w
ed to these even
In fact, if you h
companies, yo
ning of the yea
markets, we w
at hasn’t been
ndy’s point abo
ding the Chines
the renminbi r
ged over the las
urrency to a bas
s that, instead o
ging a currency
red for greater
minbi depreciate
ve to the dollar
at this volatility
ment. The renm
lar’s strength, n
akness. The big
n by the Chines
y, resulting in a
hinese people a
hat now, but th
igh.
conomy, I expe
with GDP gro
ous years but st
worth noting ho
nts. Asian bond
held U.S. dolla
ou have actuall
ar. In times of r
would expect to
the case in U.S
out China’s exc
se government
relative to the U
st decade. The
sket that reflec
of having an an
y to a floating t
volatility and n
es substantially
r.
Jan
y reflects a los
minbi’s depreci
not by signific
ggest ongoing p
se Central Ban
a serious loss o
and the risk of
he odds of cont
ect it will conti
owth of 6% to 6
till pretty fast.
ow the Asian b
ds have held up
ar-denominated
ly made money
really large, sy
o see a little mo
S. dollar-denom
change rates, m
, have tradition
U.S. dollar, but
Chinese are no
ts their trading
nchor, they are
target. So we s
not be surprise
y as this basket
nuary 2016
s of control by
iation is driven
cant or new
problem is
nk over its
of confidence
capital flight.
tinued market
inue to
6.5% – slower
bond markets
p relatively
d bonds of
y since the
ystemic moves
ore volatility,
minated Asia
most people,
nally thought
t that has
ow managing
g partners. That
e now
should be
ed if the
t depreciates
6
1
y
n
t
MATTHEWS ASIA ANALYSIS OF MARKET EVENTS IN CHINA
©2016 Matthews International Capital Management, LLC 2
Q: What about China’s move to remove the circuit
breakers? Is this another signal of the Chinese
government’s failure to attempt to save the market?
Andy Rothman: The decision to remove the circuit breaker
was great. It showed a high degree of pragmatism and realism
on the part of the Chinese government, and they addressed their
mistake with a surprising amount of candor.
Q: Is the market overreacting to currency movements?
Teresa Kong: In the very short term, the currency movement
has been quite large from a statistical perspective. One of the
key indicators we look at is the difference between the offshore
(CNH) and onshore (CNY) renminbi exchange rates. There is a
lot of offshore selling of renminbi and right now we’re seeing
the widest gap since 2011, when there was concern about the
possible breakup of the euro. So we’re definitely at a peak point
of fear based on the indicators that we look at.
If you have a longer than two-year view, I think this could be a
great entry point. If you have a one- or two-month view, hold
on tight. It is going to be very volatile, I think, over the next
few months.
Q: If China were to devalue the RMB by 10%, how would
that impact other Asian economies, or would it at all?
Teresa Kong: Because we’re no longer in a pegged currency
world, but one in which currencies are moving relative to other
currencies, there is the potential for very large gaps, either up or
down. If the renminbi were devalued by 10%, a lot of the other
basket currencies would most likely also be devalued similarly.
That would indicate to me that commodity prices have
continued to fall and there is increased uncertainty driven by
geopolitical events that we have not priced in. In that type of
environment, most likely a lot of other high-beta currencies
would be hurt.
Q: Renminbi depreciation would favor the old Chinese
economy. If they're looking to change the economy towards
consumption and services, why would the government
devalue the currency?
Andy Rothman: The government is not devaluing the currency
for any reason other than in response to a strong dollar. This is
not what they wish to do. If the dollar is flat this year, the
renminbi will be likely flat against the dollar as well. At the
same time, I do not think that devaluation is going to create a
problem for rebalancing the economy. The peak in investment
in construction of infrastructure and new homes has already
passed. The exposure of the average Chinese consumer to
imported goods is actually quite low. I expect this will be the
fourth consecutive year in which services and consumption will
be bigger than manufacturing and construction, and I would
guess that we’re likely to see consumption contribute roughly
60% of China’s GDP growth this year.
Teresa Kong: China is now the biggest importer and the
biggest exporter in the world. So we need to recalibrate our
understanding of the economy, instead of just thinking about it
relative to the dollar. There are two real secular trends in China.
One is that the growth rate is slowing, but the second is that the
value added in Chinese companies is increasing. They are back-
solving a lot of technologies they have gotten from places like
Korea and Japan, and they are now producing components and
parts they did not produce before, all the way up and down the
value chain, from low value-added goods like steel to much
higher value-added goods like precision parts and high-tech
products.
Q: Recent media articles have been casting doubt on the
health of the Chinese services sector. Are services slowing?
Andy Rothman: Pretty much every part of the Chinese
economy is decelerating. Even the biggest and healthiest and
fastest growing parts of the economy are going to be growing a
little bit more slowly each year. The fact the services sector is a
little bit slower this year should not surprise anybody, but the
MATTHEWS ASIA ANALYSIS OF MARKET EVENTS IN CHINA
©2016 Matthews International Capital Management, LLC 3
growth rates are still fantastic, off of a base that is getting much
bigger. One of the best bits of evidence of the health of the
consumer and services part of the economy came in the second
half of last year. The A-share market declined sharply in June,
over 30%. The second half of the year saw the best
performance in the consumer part of the economy. This tells us,
again, that the indexes don’t reflect the economy. Income is
still growing, household debt is very low and consumer
sentiment is quite healthy.
Q: There has been some discussion about capital outflow
from China and the decrease in foreign currency reserves.
If foreign currency reserves seem to be going down, does
capital outflow automatically follow?
Andrew Mattock: The numbers that we get are based on
official currency reserves. That doesn’t include the amount of
U.S. dollars deposited in the domestic banks within China.
I think if you add the commercial banks, the extent of the drop
in overall U.S. dollar reserves is nowhere near as severe as the
official numbers might indicate. There is definitely some
capital outflow. The government, as part of its reform process,
is allowing some degree of diversification of people’s assets to
outside of China, with restrictions as to the amounts people can
take out.
Andy Rothman: I would add that the evidence seems to
indicate that some of the reduction in official reserves has been
just a transfer of dollar assets from the accounts of the Central
Bank to the accounts of the state-owned banks.
David Dali: Just to clarify, if you see a drop in foreign
currency reserves reported in the news, that doesn’t mean that
those dollars are actually leaving China. It could be new dollars
that have been transferred to bank deposits.
Q: The Chinese government, broadly speaking, has been
fairly successful so far in managing the economy and GDP
growth. It has put a lid on company defaults and it has
maintained a fairly stable currency. But what are the risks
that the government is losing control of the situation at this
point?
Andy Rothman: The results of China’s economic reform
process over the last couple of decades have been quite good.
We’ve seen a tremendous increase in the role of the market, the
market sets most prices, more people work for private
companies, and people have gotten much wealthier.
Nonetheless, there have been mistakes along the way. It seems
every quarter for at least 10 years, we’ve seen headlines about
how China’s government has made yet another mistake and the
end is near. This is magnified by the much greater impact that
China has on the world today and the attention everyone is
paying to China. There’s always the risk that policy mistakes
won’t get fixed, but based on the track record that we have seen
over the last couple of decades, I think the odds of that are
pretty low.
Q: Should we be worried about cracks in the Chinese
financial system due to the rapid rise of debt within the
economy, and does this mean that we could potentially have
a future credit problem?
Teresa Kong: The total credit growth in China since 2008 has
been one of the fastest in history, so there are bound to have
been a lot of bad loans made. China has a few positives in its
favor, however. The first is that the loans have largely been
made by onshore banks and investors, meaning they have not
had to go out and borrow in someone else’s currency and be
subject to exchange rate volatility.
Certain sectors, notably property, have borrowed U.S. dollars,
but in the last six months most of these property developers
have refinanced locally at lower rates than the offshore market.
There is not an immediate liquidity problem, because the local
onshore bond market is vibrant, and a lot of companies have
accessed that market over the last nine months.
MATTHEWS ASIA ANALYSIS OF MARKET EVENTS IN CHINA
©2016 Matthews International Capital Management, LLC 4
The big crack in the system from my perspective is the lack of
credit analysis. I think that there is still a notion among credit
investors in China that, if you're a state-owned enterprise or a
large household name, there is no way your company can
default. The state won’t allow it. I think that is a
misunderstanding. Defaults are a necessary evil, and I think
over time the state will differentiate between sectors that are
more strategic and ones that are not, and companies that are in
sectors that have too much inventory will need to be
restructured.
Another big crack is that we really don’t have any precedent for
understanding how the onshore bond market will deal with
defaults, and whether there are any mechanisms for bankruptcy
or restructuring. We see that reflected, currently, in bond prices.
There is not much differentiation between a very good
company and a poor company in terms of credit spread. The
government is well aware of this issue and is working on fixing
it gradually over a period of several years.
Andy Rothman: I expect that the government is going to start
letting more companies fail, especially private companies and
even some state-owned companies, particularly in the
construction-related sectors where there is excess capacity in
places like steel and cement and aluminum. This is what they
should be doing, and we should be happy about it, but it is
going to generate scary headlines. “A company just failed in
China!” Well, companies fail in the U.S. all the time and we
understand that that is part of the process. But let’s be aware, it
is going to create more anxiety and volatility.
Q: What should US investors be thinking about in this
market environment?
Andrew Mattock: From an equity market point of view, I
think the biggest factor over the last couple of years has been
earnings per share growth. Since 2010, earnings per share
growth in China has slowed down, based on the MSCI China.
With that slowdown, has come a de-rating of the price people
are willing to pay from a P/E perspective. Over the next one to
two years, I am looking for that earnings per share growth to
come back for people to have confidence at a corporate level in
aggregate across China. There is growth in earnings, and as the
indexes more accurately reflect the underlying service sector
growth and the emergence of new companies, I think that will
give people a degree of confidence in the equity market that
we’re back in a growth market.
Teresa Kong: When we look at historical data, if you had
bought US. dollar-denominated debt of Asian companies at the
current level, you wouldn’t have lost money if you have a
holding period of greater than two years. If you have a greater
holding period, that just means your returns would have been
better. If you are able to get exposure to a long-term U.S. dollar
credit strategy that doesn’t necessarily have as much of the
currency volatility, which we think will continue, we think this
is actually an opportune time to enter.
Andrew Mattock: I would add that within Hong Kong, which
is where the majority of our investments are at Matthews, the
market is cheap.
MATTHEWS ASIA ANALYSIS OF MARKET EVENTS IN CHINA
©2016 Matthews International Capital Management, LLC 5
Past performance is no guarantee of future results. The views and information discussed in this report are as of January 7, are
subject to change and may not reflect the writer’s current views. The views and information discussed in this report are as of
the date of publication, are subject to change and may not reflect the writer’s current views. The views expressed represent an
assessment of market conditions at a specific point in time, are opinions only and should not be relied upon as investment
advice regarding a particular investment or markets in general. The subject matter contained herein has been derived from
several sources believed to be reliable and accurate at the time of compilation, but no representation or warranty (express or
implied) is made as to the accuracy or completeness of any of this information. Matthews International Capital Management,
LLC does not accept any liability for losses either direct or consequential caused by the use of this information.