Each week, a professional investor tells MoneyWeek where he’d put his money now. This week: David Livingston, partner and portfolio manager at Thurleigh Investment Managers.
China overtook Japan in August to become the world’s second largest economy after the US, accounting for $1.337 trillion in GDP in the second quarter of this year. That confirms China’s rise on the world economic stage as the most important political and economic megatrend of the last decade.
The demographic shift will continue for some time. China will add 23 million people to the working-age population over the next ten years. Meanwhile, in the third quarter of 2010, China’s GDP is estimated to grow at 9.2% year-on-year. And growth in China is not based on excessive credit. The Chinese economy’s growth is based on solid fundamentals: urbanisation and industrialisation. These secular themes still have a long way to go.
Better still, Chinese equities are fairly inexpensive, given the strong prospects for company earnings. The H-share index is at a mean p/e ratio of around 14 times (dividend yield 2.7%) and the A-share index is trading at a mean p/e of 17 times (dividend yield 1.4%). These are not expensive by both historical and relative standards. Chinese equities are under-represented and under-owned. Pension funds and institutional fund managers have very little exposure to the emerging markets, often due to benchmarking to the MSCI World Index. For example, China is 2.4% of the MSCI All World Investable Index – that’s less than Switzerland! As a bonus, the Chinese currency, the renminbi, is still one of the most undervalued in the world. That should provide investors with a tailwind.
As the Chinese markets as a whole are looking reasonably cheap, I would recommend the iShares FTSE/Xinhua China 25 (LSE: FXC). This is an exchange-traded fund and gives investors cheap and efficient exposure to the largest 25 Chinese equities listed on the Hong Kong stock exchange. These include domestically orientated companies such as China Mobile and China Construction Bank.
I spent several weeks in Sichuan province, West China, earlier this year visiting a privately owned forestry company. I discovered that not only is Chinese forestry a low-risk proposition, but it is also extremely attractive given yields of about 20% on forestry holdings. These can be purchased at a fraction of their combined price from local farmers and state-owned bureaux, and demand for the end product is extremely strong (China is a net importer of sawn timber from Russia). For these reasons I like Sino Forestry (CN: TRE), which is listed on the Toronto stock exchange.
Chinese development is set to continue for years to come. But the real challenge for China is whether it can harmoniously develop from an exporting east-coast-dominated manufacturing economy to a more balanced domestic-consumer-orientated nation. There are significant risks, especially in the short term. But even with the associated potential volatility, investors should allocate a small percentage of their portfolio to China to ensure they are not missing out on exposure to a major component of the global economy. So I also like West China Cement (HK: 2233). Cement margins are highest in West China, and given the consolidation happening in the industry, as well as the continuing urbanisation and electrification (cement is used in hydropower), this is another investable theme.