The hidden gamble that may be lurking in your emerging markets fund
30 September 2014
It features in the latest Bond movie and has driven high returns over the past few years for funds with exposure, but is the Macau casino boom losing its shirt?
The leap was driven by the escalation in demand for gambling amongst mainland Chinese citizens who have flocked to the Special Administrative Region, which is under the control of the central Chinese administration, in greater numbers as the country’s wealth has increased over the past decade.
Gambling revenues surpassed Las Vegas’ by seven times last year in the former Portuguese colony and the only place in China where you can legally bet in a casino.
However, 2014 has been a torrid year for the major casinos in the world’s largest gambling area by revenue. Profits are down across the board as are share prices in some of the largest operators.
New anti-graft legislation aimed curtailing corruption amongst party officials, bureaucrats and business executives have hit profits.
Wynn Macau, Sands China, Melco Crown, SJM, Galaxy Entertainment and MGM China have fallen between 30 and 50 per cent since March 2014.
The stocks are popular amongst emerging market and Asia fund managers as they have enjoyed a strong re-rating in the face of choppier markets over the past few years.
In the IMA universe 17 funds have exposure to at least one Macau casino business in their top 10 holdings. Most are in the IMA Asia ex Japan sector with the rest in the IMA Global Emerging Markets sector.
The £174m JPM Emerging Markets Income fund has 2 per cent of its portfolio in Wynn Macau, making it the fund’s second largest holding.
Lead manager Richard Titherington says the Chinese consumer discretionary sector is high conviction theme in the portfolio and that he maintains sizeable positions in Macau casinos as a way of accessing the long-term Asian consumer growth story.
Titherington’s co-manager on the fund, Omar Negyal, says despite a rocky year they are sticking with stocks as they offer an attractive yield as well as a long term growth story.
“Macau stocks have been a drag on performance in 2014, after a strong 2013. A good, long-term play on Chinese consumer spending, the stocks had run up during 2013 and so we slightly reduced on valuation grounds, however, hindsight shows the valuation correction has been much more severe than we anticipated,” he said.
“The dividend growth story remains intact and with 2014 dividend yields ranging from 4.5 per cent to 5.5 per cent for our Macau names, the yields certainly look healthy on their own.”
“The growth thesis is clearly being tested at the moment with gaming revenues declining on a year-on-year basis in the past few months but our medium-term growth numbers are still supportive. So we remain positive overall.”
Negyal says the fundamentals of Wynn Macau also seem to be improving.
“One other detail to note is that Wynn Macau announced its interim dividend during August: they raised the interim by a decent amount year on year.”
“As an ordinary dividend policy was only established last year, this is only a little step but we still take it overall as a positive sign in terms of management intent.”
According to FE Analytics, the fund has outperformed over the past few years – a torrid time for emerging markets - but has had a difficult six months and is currently down against the sector and index.
Performance of fund, sector and index over 6 months
Source: FE Analytics
Other funds with top 10 positions in Wynn Macau include the UBS Emerging Market Income, £45m Newton Global Emerging Markets and £5bn Newton Asian Income funds.
Newton Asian Income has 2.8 per cent in Wynn Macau as well as 3.17 per cent in Sands China, giving it the largest nominal and percentage weighting to the stock in the IMA universe.
The five crown rated fund is managed by Jason Pidcock, who also runs the £250m Newton Emerging Income fund which has 2.76 per cent in Sands China.
Pidcock is also deputy manager on the £424m Newton Oriental fund - Caroline Keen is lead manager – which has 4.07 per cent in Sands China.
Pidcock recently told FE Trustnet the stocks are still his preferred way to play consumption growth in China, despite the recent poor performance of the casino’s share prices.
“The market gets spooked every now and then by short-term bits of news flow, but actually they’re pretty steady operators in terms of year-on-year revenue growth, profits growth, very good balance sheets, very good dividend policy and dividend payments,” he said.
“It remains a very closed market. There are six licensed operators in Macau. There are very high barriers to entry. New supply coming on will grow profitability. In the case of Wynn Macau it is 2016 where we expect a big pickup in profits due to increased capacity.”
“They have underperformed recently after doing very well last year. But I think now valuations look good again, yields look good. They’re still our preferred way to play consumption growth from China.”
Pidcock has a longer history in investing in Asian equities and has beaten his manager peer group composite since January 2000, as far as our data gores back, by almost 75 percentage points.
Manager vs peers since Jan 2000
Source: FE Analytics
However, he has lagged behind his peer group over the past six months by more than three percentage points.
Other popular funds with high exposure to Sands China include the $2.4bn GAM Star China Equity, the $2.1bn Fidelity China Consumer and the $241m Old Mutual Global Emerging Markets funds.
Another popular stock for exposure to Macau’s casinos is Galaxy Entertainment, which is held by Raymond Ma in his Fidelity China Consumer fund.
The Gam Star China Equity fund, managed by Michael Lai, also has Galaxy Entertainment in its top 10 with a 4.3 per cent position.
The Guinness China & Hong Kong, Old Mutual Asia Pacific and UBS Asian Consumption funds also have the stock in their top 10s.
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