China is not an export-led economy but a consumer-led one and its position as the world’s best consumer story will continue over the coming years, with the trade war set to pass, according to Matthews Asia’s Andy Rothman.
Investment strategist Rothman said China is now an economy where consumption plays the biggest part, meaning that US tariffs will have a very modest impact on the Asian giant.
One of the main reasons consumption is growing so fast, Rothman noted, is the strong income growth of China in recent years.
“Last year inflation-adjusted real household income went up an average of 6.5 per cent, pretty good by most standards,” he said.
“If you look at the last ten years, inflation adjusted household average income in China went up 120 per cent whilst in the UK it went up just 4 per cent during that time, 9 per cent in the US.”
Real growth rate of per capita household income
Source: Matthews Asia
While 10 years ago investors were mainly concerned by China’s inability to rebalance its economy away from dependence on investment in cheap manufacturing to a consumption-in-services-oriented one, Rothman argued that process was now “well underway”.
“Last year was the sixth consecutive year in which the tertiary part of GDP of the services of the consumption part was bigger than the manufacturing and construction secondary part,” the analyst explained.
Not only over the last decade real inflation adjusted household income has gone up 120 per cent but, at the same time Chinese consumers continue spending as well as increasing their savings.
Improvement in corporate earnings and a turn in the composition of those earnings is another positive area the investment strategist highlighted.
“Corporate earnings growth is up significantly this year and they have done it faster than in the last couple of years, Rothman said.
“The composition of earnings has changed, it is not driven by volume growth anymore.”
The earnings turn, Rothman said, has come about thanks to a change in the composition of the market.
Thus, while China saw a strong earnings growth between 2004 and 2010 driven by old sectors – banking, insurance, telecoms, and materials – the emergence of the Chinese consumer in 2010 led to a change in the composition of those earnings.
“The market is now dominated by new areas: information technology, industrials, consumer staples, consumer discretionary and healthcare,” he said.
“As a result, our funds have seen inflows in the last years. This is due to that strong economic growth, improvement earnings, low valuations and an improvement in sentiment.
“Our China Small Companies fund, for example, grew last year by more than 50 per cent. Our China dividend fund also had a good performance,” Rothman pointed out.
China’s changing market
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Source: Matthews Asia
Another argument supporting his belief this is a sustainable consumer story that Chinese consumers are still very optimistic, highlighting a recent Ipsos MORI’s survey asking people about their sentiment towards their own countries.
“87 per cent of Chinese said they think their country is on the right track,” said the investment strategist.
Rothman also mentioned some of the issues that often-made people nervous about China, including a bubble in the property market and a possible crisis of the corporate debt.
“It is highly unlikely we will see a bubble in the property market anytime soon,” he explained. “To me bubbles are about leverage and the Chinese regulators have learnt a lot from the US experience.
“In China, almost everybody is putting down at least 30 per cent cash when buying a house and, despite prices are expensive in certain areas, the big expensive cities account only for 4 per cent of new home sells.
“Two-thirds of the new home sells are taking price in areas where prices have risen less rapidly than income growth over past years.”
The Matthews Asia analyst also said it is highly unlikely that there will be a crisis in Chinese corporate debt.
He explained: “The corporate debt problem is the result of the Chinese government instructing Chinese government-controlled banks, which are all of them, to lend money to state-owned enterprises to build Chinese government directed public infrastructure.
“It is going to be an expensive problem to clean up. There is no private participation, there no equivalent of Lehman Brothers so the government decides when and how to clean it up today, a process that is certainly underway today.”
While Matthews Asia has a number of strategies investing in China, it has three funds dedicated to the market: Matthews Asia China, Matthews Asia China Dividend, and Matthews Asia China Small Companies.
The best performer over three years has been the five FE Crown-rated Matthews China Small Companies fund, which has delivered a 50.35 per cent total return compared with a 4.55 per cent gain for the MSCI China Small Cap index.
The $12.3m fund is managed by Tiffany Hsiao and Kenichi Amaki and invests in a portfolio of Chinese smaller companies with a long-term capital appreciation objective.
Performance of funds over 3yrs
Source: FE Analytics
The next best performer is the Matthews China Dividend fund, which is up by 40.76 per cent over three years. Another fiver FE Crown-rated fund, it is managed by FE Alpha Manager Yu Zhang and colleague Sherwood Zhang and has a yield of 2.53 per cent.
Finally, the Matthews Asia China fund has returned 39.19 per cent over three years. The $21.5m fund is managed by Andrew Mattock, Henry Zhang and Winnie Chwang and has a broader investment remit than the other two China strategies.