It seems as if the US-China trade war has dominated any discussion about investment in the world’s second largest economy in recent years. However, fund managers focused on Chinese equities believe that investors put off by the trade war ’noise’ could be missing out.
Andrew Mattock, manager of the $68.9m Matthews China fund, said while the trade war “has certainly affected foreign sentiment towards China”, although domestic sentiment remains little changed.
Having invested in China for two decades Mattock said, he was “always quite relaxed about the trade war and that America would see sense”.
“I think that if America could have steamrolled China, it would have already happened,” he explained, adding that he had always remained optimistic about a logical outcome being achieved despite US president Donald Trump’s tweets.
Performance of indices over 1yr
Source: FE Analytics
However, international investors put off by the thought of a ‘hot’ trade war will have missed the ongoing transition of China going from a low-cost, assembly line-style manufacturer to a manufacturer of products and misread them as just an export nation.
“People always view China as an export story, and while it’s true to a large degree, China never had the option to grow through exports,” said Mattock, as growing demand has made the domestic market more important.
“The issue with China is that it was always going to have to grow domestically if it was going to prosper at all,” he explained. “China just doesn’t have the luxuries that a lot of smaller countries have in growing; there’s no easy way out.
“China needs to grow internally because no one else is going to save it – it’s just too big.”
And although tariffs have disrupted various trade routes between China and the US, Mattock said this transition has been going on for almost a decade.
Progressing from end-of-the-line fulfilment to an actual manufacturer this has come at the same time as consumption in China has skyrocketed thanks to a growing middle class.
“They used to just assemble a smart phone but now tick off every part of a smartphone,” Mattock said. “The only bit that isn’t is made by them is made in Taiwan. And that’s just in phones
“It’s the same thing in air-conditioning units. They used to just assemble the units, [but] now they make the plastics, the mini motors, the moulding all down to themselves producing them.
“So, China was just viewed as this end assembler but what I don’t think people understand was that they’re evolving in scale unparalleled and they’ve actually reinvented the whole supply chain.”
The trade war has admittedly sped this process particularly the IT sector because “they knew that everything made in America within the IT space was going to be replaced by ‘Made in China’”.
“That’s why winning a trade war is actually not that easy,” he said. “China has a lot of catch-up to play in areas where it’s not self-sufficient. Where it’s not self-sufficient people go out of their way to make themselves self-sufficient.”
This demand on more of the domestic companies to fill the gaps has led to emerging market leaders in China.
One example is a company called Kingdee Software who are the leaders in corporate enterprise resource planning (ERP) software and suppliers of cloud hub technology, according to JP Morgan Asset Management’s Rebecca Jiang.
Kingdee Software share price over the past five years
Source: Google Finance
Kingdee Software is one of the “winners from the trade war,” said the JP Morgan Chinese investment trust co-manager.
“Even without the trade war they’re riding on the favourable industry backdrop which is with the build-up of corporate infrastructure in China,” she said.
“The cost for corporate ERP system has roughly dropped by two-thirds, so it actually extended the potential market dramatically as it included the small and medium enterprises that before could not afford it.”
Kingdee is just one of the domestic software leaders in the JP Morgan Chinese investment trust, where it “has a large overweight”, according to Jiang.
This emergence of smaller companies as market leaders has been enabled by the Chinese authorities opening up the financial system, which is providing “industry protection” and helping them to grow faster particularly in the face of capital-rich western competitors. 
Jiang (pictured) said: “We’re seeing domestic companies picking up market share more aggressively, especially in the semiconductors space [where] we see things moving more rapidly.”
One company that Jiang holds in this space is Silergy Corporation, which was founded by a group from Silicon Valley. Specialising in both industrial and consumer products for computing and communication devices, the company is traded on the Taiwan stock exchange and feature semiconductor production.
Looking ahead to 2020, both fund managers remain optimistic for the upcoming year despite the overhanging threat of the trade war.
“I think that the macro is going to be boring but it’s probably going to be a good backdrop for stock picking,” said Jiang.
“It’s been an interesting road for me for 20 years,” said Mattock. “I have always been optimistic about where China was heading and there’s been more than enough scepticism to keep me tided over.
“But I do look at it [China] even now and there’s really a lot left and I think that it’s certainly moving in the right direction.”