John Stepek chairs our panel of experts and asks where they would – and would not – place their own money in today’s markets.
John Stepek: Anthony Bolton is launching his China investment trust. Is this a contrarian indicator? Is it time to sell China?
Edward Allen: We were having exactly this debate this morning in my office. We don’t think so quite yet. For one thing, the renminbi remains very cheap in dollar terms.
Cressida Pollock: I just came back from China and it’s looking pretty good. The monetary tightening is good news. There’s a lot of concern, quite rightly, that there’s going to be an asset bubble. But we don’t think that’s there yet; certainly not outside of property in Shanghai and Beijing.
The economy is sound and there’s a lot of domestic consumption growth. A huge amount of household wealth is just sitting in deposits earning nothing. There’s no bond market for people to buy into; and the equity market is just a casino for them. So more and more, this cash is moving into consumption. That’s what will drive China for the next few years.
John: What about all the overcapacity and cities with no one living in them?
Cressida: These do exist and there’s a lot of local government borrowing. But my concerns are tempered by the fact that the central government will bail out the local governments and banks if necessary.
Our Roundtable panel
Portfolio manager, Thurleigh Investment Managers
Simon Marsh
Partner, Killik & CoTim Price
Investment director, PFP GroupCressida Pollock
Analyst, Somerset Capital ManagementTim Rees
UK equity income fund manager, Insight Investment
John: Is anyone worried about China?
Tim Rees: China has done the West a huge favour in the past few decades. We’ve enjoyed 15 years of economic growth while having the natural inflation pressures that would have built up over that period suppressed. Unfortunately, this relied on global imbalances that couldn’t last. But these are starting to be addressed by China moving from purely production on an export basis to consumption. That’s only just starting.
The other oft-quoted comment about China is that it’s a nation racing to grow rich before it grows old. Of all the world leaders, the Chinese seem to be the most acutely aware of the problems they’re facing. They don’t want the boat rocked. So I think what they’ve done over the last year to stimulate demand is hugely encouraging. Sure, if you want to be pessimistic, it’s very easy to be. But taking the long-term view, it’s moving in the right direction.
Tim Price: People are a little unfair on China. It’s a convenient scapegoat, particularly for America. In the long run, both China and the stronger renminbi are great stories. But the trouble is, how do you resolve these huge imbalances?The issue of the renminbi and the US dollar has replaced the Cold War as the stand off between two superpowers – one slightly past its prime and the other still emerging. There will be no easy resolution, because the Chinese have got trillions of dollars of reserves and the Americans need somebody to buy their debt. So it’s illogical to assume that the Chinese will want to destabilise that relationship. But over the long run, something has to give.
Cressida: Yes, but not in the immediate future. Right now, China is pegged to the dollar. But the dollar is rising. That’s pushing the renminbi higher against a basket of other currencies that represent a huge amount of China’s exports. So there’s no way they’re going to make it less competitive against the dollar. And appreciation doesn’t solve anything for America – it’s just a political lobbying point. So I don’t think China will let it happen yet. Obviously, I wouldn’t bet against it in the long run. I think at some point they’ll bring back the floating band that allows steady appreciation.
John: What about the impact China has on inflation for the rest of us?
Simon Marsh: We think inflation is coming – it’s a matter of when, not if. China’s insatiable appetite for resources will have a huge inflationary impact on the West, while we’re still stuck in the debt mire.
John: But where is all the end demand coming from to drive up resource prices?
China is going from being the workshop of the world to becoming a consumer base.
Tim P: Especially when we’ve got massive overcapacity in the West.
Simon: The capacity has gone – I just don’t think it’s there. China is going from being the workshop of the world to becoming a consumer base. When I visited the Porsche factory in Leipzig, the lady who took me round said: “If you had come here a few years ago, you’d see cars with American stickers going down the production line – they’re now all Chinese.” China bought 13 million cars last year.
Cressida: And there is this massive influx of cash into the economy. Recently I visited a penthouse flat in Shanghai that cost more per square foot than a house in Chelsea. It wasn’t even that nice. All these people who own the coal concessions in Inner Mongolia turn up with suitcases of cash and buy apartments and office space to rent out to small- and medium-sized enterprises. That does make it sound like a bit of a bubble. There’s certainly a huge oversupply of office property in those cities that will take a while to work out.
John: Let’s move on to Greece, which is the other big worry for markets.
Simon: The logical solution is for Germany to leave the euro, but that won’t happen. I think there was a feeling that a full-scale bail-out package would have appeared by now, but the German public have put their hands up and said, ‘We don’t want to pay anymore.’ A little bit of me now thinks that maybe the Greeks will get ejected from the euro. It’s a hideous thought – they’ve got debt denominated in euros, but they need to rebalance their economy and they have to do that through a depreciating currency. They’re between a rock and a hard place.
Cressida: The idea that you can have such severe austerity measures in a country that is so fond of striking… it’s not going to go well. But how do you think Germany would leave the euro?
Simon: Well, my father-in-law is German and he says a lot of his friends won’t accept euros from the periphery countries. They are convinced that at some point the thing will explode, and if you are holding a Portuguese euro it ain’t going to be worth much.
John: Some people say the Germans are to blame for this by not consuming enough.
Tim R: There is that view – but let’s put it into perspective. A lot of these countries chose to go down a highly consumptive route when they joined the euro. They’ve all taken the chance to bump up their salaries. The Germans, on the other hand, have been through nearly 20 years of fierce discipline to deal with the issues that arose from integration. So you can understand why they feel that they’ve done more than the periphery countries who now face serious problems. Of course, it would help if certain economies started to consume more – but would they want to consume the stuff that you’re implying they’d be importing?
Tim P: Yes, all those high-quality Greek manufactured goods that we’re all desperate to get our hands on.
Edward: It would be much better for them to stand up and say no to the Greeks now. If Greece is bailed out, then the problems will just go on and on.
Tim P: But a default or ejection would also be grim. It does flag up the fundamental problem of having a fiat currency system where no one obeys the rules. Everybody – not just the Greeks – fiddled figures to meet the Maastricht criteria. Forcing a single currency on a block of countries, each at differing stages of the economic cycle, was always a flawed idea. Those chickens are coming home to roost.
Tim R: It’s easy to lump the various periphery nations together. But some have taken the pain. Ireland has slashed public-sector salaries. For Spain, I think nearly 20% unemployment constitutes taking it on the chin. Greece stands out as one that just feels it’s somehow different. The difference may be that it is the one left to hang out to dry.
Sterling investors should get into Asia and all that Asia represents.
John: Does the euro get out of this alive?
Cressida: The only currencies that look OK are those with huge capital controls.
Edward: Or Norwegian crowns.
Tim P: And gold – our old favourite.
John: It’s hit new highs against the euro.
Tim P: That’s the key. Everyone looks at the dollar rate. But when it starts hitting new highs against everything else, it becomes a more meaningful barometer of risk aversion. The trouble with gold is that it’s like an insurance policy you don’t want to draw on – because when it’s doing well, everything else is miserable.
Simon: But if there was a doomsday scenario, which is what you’re holding it for, it would be worthless. Even if you’ve got a bar under the bed, you’ve still got to find someone to exchange it with for food when you’re scavenging in the streets. And there’s been a huge upsurge in these gold bullion advertisements appearing on CNBC, which is a kind of contra view.
Tim P: There’s certainly more speculative ‘come and have your jewellery revalued’ advertisements. But I think we’re so far away from mainstream adoption of gold that this bull market has years to go.
Edward: Investec put out a chart showing the percentage holding in institutional portfolios. It peaked in the 1970s at around 6% or 7%. Currently, we’re at just about 3%, so I’d agree.
Tim P: I’m not suggesting it will happen. But if China raised its exposure to gold by just a fraction of a percent, as India has done, there’s so little coming out of the ground now that it would have a real impact. I don’t think it’s a complex proposition for a sterling investor, certainly. Beyond gold, I think sterling investors should get into Asia and all that Asia represents – whether that’s in currency, or the credit or equity markets. The West has gone ex-growth and Asia is taking the longer-term view. It’s a popular trade, but I can’t find an argument to counter it.
John: What Asian markets do you like?
Cressida: South Korea. It had a big run from the bottom in March last year. It’s not done as well this year, because the won got a little too strong. But exports were still up 47% in January, year-on-year. Korea has some of this decade’s top brands. Samsung is doing well, while Hyundai and Kia are gaining market share and respect. I’m also positive on the Philippines – it’s done well in the last few months and they are coming up to an election. A change of government looks likely, which could give another boost to what has been quite a neglected Asian market. Indonesia is also growing steadily – consumption growth has been above 2% for over a decade now, and it came in at about 4% last year.
John: What stocks are you all investing in just now?
Tim R: I’m a large-cap-orientated equity manager. Given sterling’s problems, I’ve got significant exposure to overseas profit streams. A big chunk of my portfolio reports and pays dividends in dollars, which has been a significant tailwind over the last year or so. But when I do hold more UK-orientated stocks, I look for firms that are finding life very tough. I look for areas where I think management are wise to that fact and are undertaking change. Three very different companies fit the bill now – although bear in mind that these are all risky picks.
Insurer Legal & General (LSE: LGEN) looks interesting. It’s got a finance director who has come from outside the industry. You’ve got loads of problems – such as new regulations coming in from Europe – but the newly invigorated management team is trying to focus on cash and change investors’ views. So to me, those fears are already in the price.
Then there’s retailer DSGI (LSE: DSGI). Go back a year and it’s got all the problems you wouldn’t want. It’s a consumer-facing electronics business under huge pressure from the internet. But again, put in a credible management team and it becomes a more interesting story. It’s done reasonably well already, but I think it has further to run.
Finally, there’s British Airways (LSE: BAY). If ever there was a stock that can snatch defeat from the jaws of victory, this is it! But despite how awful things have been and how precarious certain aspects of the firm might be, if it is ever going to get it right, this is the point from which it should be setting forth.
Cressida: Asia has got quite expensive, so it’s good to look at distinct areas where you think there is still a kicker. One is travel, which is really recovering and has a huge kicker coming from China.I don’t like airline stocks. But I like Banyan Tree (SP: BTH). It’s may be a little expensive just now, but on any pull back I think it’s a fantastic stock. It’s Singapore-listed, but has 30% of its assets in Thailand. It runs very swish resorts and hotels across Asia and it has a slightly lower-level hotel chain in China. I like the management. I also like AAC Acoustic (HK: 2018), which makes microphones and sound components for mobile handsets. More importantly, it’s moving into a new area: as flat-screen TVs get thinner, you can’t put normal speakers in them. So all the manufacturers are going to people like AAC who already do speakers for mobile phones, to adapt them for ultra-thin LCD or LED TVs.
Edward: We like the iShares FTSE/Xinhua China ETF (LSE: FXC). We think that China will deliver growth at a time when prices aren’t that much more aggressive than in Europe, America, or the rest of the world. It also gives you access to renminbi earnings, as we discussed earlier. We also recently did a switch into the Jupiter Absolute Return Fund (tel: 020-7314 7600) from the Jupiter Financial Opportunities fund. We think that manager Philip Gibbs has been fantastically good at calling financial companies over the last few years.
Our Roundtable tips
Company Ticker Legal & General LSE: LGEN DSGI LSE: DSGI British Airways LSE: BAY Banyan Tree SP: BTH AAC Acoustic HK: 2018 iShares China ETF LSE: FXC Jupiter Absolute n/a Wealthy Nations n/a Aggreko LSE: AGK Avanti LSE: AVN Cisco Nasdaq: CSCO Statoil Oslo: STL
Tim P: I am going to bang the drum on another bond fund. We are advising people to get out of gilts. But some other government bond markets have value. Take Qatar. The IMF reckons its GDP will grow by 18.5% this year. It’s the wealthiest country in the world, judged by GDP per head. It has net foreign assets of 374% of GDP, compared to a 28% deficit for Britain. Qatar is one of the holdings in a fund called the Wealthy Nations Bond Fund (020-7766 0820, ask for Andrew Clark), which I’ve mentioned before. Why own gilts offering 4% if you can own investment-grade, improving credits and earn a sterling yield of 8%?
A stock I have liked for a while – and which is one of the larger holdings I have personally – is Aggreko (LSE: AGK). It’s based in Scotland and is the world’s largest provider of temporary power equipment. It’s a pragmatic way of playing the energy infrastructure theme because half the world just doesn’t have any, or doesn’t have enough. Aggreko is well positioned to cater to that shortfall.
Simon: I like a little company called Avanti (LSE: AVN). It’s a pure play on growth in internet usage. Companies like BT are under, certainly a moral obligation to provide most of the UK with internet coverage, and they simply can’t in a cost-effective way. Avanti solves that problem. The company has two satellites that are shortly to go up. These provide satellite broadband. Someone like BT will come along and buy a package on the satellite which will cover them for providing broadband to these consumers in far-flung corners of the UK who get very very vocal about their lack of internet access. The company doesn’t make any money at the moment – it becomes profitable in 2013, and is on a multiple of 18 for that juncture.
On the same theme, Cisco (Nasdaq: CSCO) looks interesting. I live in Sevenoaks and I can’t get an internet connection at certain times. Bandwidth is a real issue, with people downloading large files from sites such as YouTube. Phone and computer networks need to be upgraded across the world and Cisco is well-positioned to benefit. It’s cheap stock sitting on a lot of cash.
Finally, because we think the price of oil is going significantly higher from here, Statoil (Oslo: STL). It offers a UK investor exposure to a sensible currency – the Norwegian krone – as Norway is the only country in Europe with a budget surplus. It’s the most geared of the oil majors to a rally in oil, because it doesn’t have the current downstream issues that affect BP. It’s boring but safe – you get a 5% dividend yield and as the price of oil ratchets up they pay bigger dividends because the money goes back into Norway’s sovereign wealth fund.
John: How secure is the dividend?
Simon: The stock price has come back from 220 kroner to about 130 Norwegian kroner. They just increased the dividend by quite a big amount. It’s a safe place to park cash and I would rather be sitting in Norwegian kroner than sterling. And as I say, if you think the price of oil is going up, it’s a way better bet than BP or Shell.
• This article was originally published in MoneyWeek magazine issue number 475 on 26 February 2010, and was available exclusively to magazine subscribers. To read more articles like this, ensure you don’t miss a thing, and get instant access to all our premium content, subscribe to MoneyWeek magazine now
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