China’s bitter trade dispute with the US and its slowing economic growth hardly make for an encouraging start to the new year but investment trust managers focused on the country have taken an optimistic outlook. 
Today marks the start of Chinese New Year, bringing in the Year of the Pig. In Chinese astrology, some of the attributes of the pig include good fortune and wealth – which would be welcome given the tough run markets have just been through.
Over the Year of the Dog – which spanned 16 February 2018 to 4 February 2019 – the MSCI AC World index made a total return of just 2.79 per cent, as investors spent much of 2018 worried about issues such as the US’ trade tariffs, tighter monetary policy from the Federal Reserve and the UK’s slow move towards Brexit.
Performance of indices over the Year of the Dog
Source: FE Analytics
The MSCI China index fared even worse, falling by 8.48 per cent on the back of its trade war with the US and signs that its economy – which is the second largest in the world – is going through a slowdown.
While China and the US spent much of last year levying tariffs on each other’s exports and threatening further escalations if the other did not back down, a truce between the two countries is currently in place while they undergo talks. This truce is scheduled to run until early March.
JP Morgan Chinese manager Howard Wang believes that these talks should lead to a resolution on tariffs as it is in the interest of both the US and China to draw a line under the dispute. That said, he argued the “political dimension” means that he does not have an overly strong conviction on this.
“We do think that domestic Chinese equities have discounted a very pessimistic outcome: both a trade war and growth slowdown,” Wang added.
“Consequently, we are beginning to see value in several areas of the A-share market. Whatever the outcome of current negotiations we believe China and the US will increasingly compete in areas of technological innovation from electric vehicles to artificial intelligence.”
However, Schroder Asian Total Return manager Robin Parbrook remains sceptical of any real let-up in US and China trade tensions despite US president Donald Trump’s suggestions that a deal will be completed.
Parbrook noted that the US’ trade tariffs are a key element of Trump’s ‘America First’ agenda, but also play into the US’ concerns that China is becoming an increasingly strong rival on the global stage.
Performance of trusts over 5yrs
Source: FE Analytics
“As highlighted several times last year, it is clear that US-China tensions are not just about trade, but something much bigger,” he explained.
“It involves US perceptions around China’s intellectual property theft, cybercrime, the way China projects its political and financial power via ‘One Belt, One Road’ and China’s desire to dominate key industries via massive state subsidies through Made in China 2025.”
Suresh Withana, managing partner of Harmony Capital, the investment manager of Adamas Finance Asia, added that the trade war between the US and China has the potential to cause “continued, serious, short-term global disruption” at the macro level.
However, he argued that this disruption could have unexpected benefits for certain regional economies, thereby bolstering other parts of the Asian market.
“For instance, companies may seek to shift production from China to other Asian countries,” Withana said.
“Furthermore, if volatility in public markets continues to prevail, we would expect to see both Chinese and Asian SMEs [small- and medium-sized enterprises] increasing their reliance on private financing sources as they will still require capital to fund ongoing regional growth opportunities. We believe the most exciting investment areas will be those driven by intra-Asian consumption.”
While there’s a chance that the trade dispute could have a near-term solution, a potentially larger problem is the apparent slowdown in the Chinese economy.
Data published in January shows that the China’s economic growth dropped to its slowest annual rate in almost three decades last year as the 6.6 per cent increase in gross domestic product in 2018 was the lowest since 1990.
The country has been implementing a series of fiscal and monetary stimulus measures since July in a bid to kickstart investment and spending, but these appear to have failed to check the slowdown.
Mike Kerley, manager of Henderson Far East Income, said: “Chinese growth is slowing although not by more than we would have expected. The rising base ensures that the growth of the past cannot be repeated, while the reforms of state-owned enterprises and the clampdown on non-bank credit will put pressure on growth in the short to medium term.
“These headwinds are being offset by measures to promote consumer spending and by tax cuts to corporates and individuals. This should be seen as a positive as the government pursues a policy of sustainability, rather than the old model of pump priming through debt-funded investment. Ultimately, the quantity of growth may slow but the quality will improve.”
Amid these conditions, however, investment trust managers maintain that they can find attractive opportunities in the Chinese market.
JP Morgan Chinese manager Wang used the recent market sell-offs to add to quality, structural growth names in internet, software and healthcare services.
Kerley has around one-quarter of Henderson Far East Income invested in China. He argued that the country is well-placed in ‘newer’ sectors such as electric vehicles, renewable energy, healthcare, artificial intelligence and virtual reality.
Adamas Finance Asia, on the other hand, is optimistic about the Chinese consumer. Withana expects to see more opportunities in SMEs in the healthcare, tourism, retail and education spaces.
Dale Nicholls, manager of the Fidelity China Special Situations investment trust, added: “Following a period of market volatility towards the end of 2018, activity in the portfolio has been focused on opportunities that arise during a period of indiscriminate sell-off. Certain sectors are particularly sensitive to market falls, such as insurance and investment companies.
“In many of these types of companies, valuations have dropped to historically low levels that significantly discount their attractive long-term growth prospects. When it comes to insurance, the sector is hugely underpenetrated relative to the West with demand coming from the growing middle class in China. With regards to securities, the long-term prospects in capital markets, particularly for institutions, make securities firms very attractive at these prices.”