Recently, KraneShares partnered with Bosera Asset Management to launch the first mainland China equity ETF utilizing a MSCI index (ticker KBA). I spent the last week traveling with the senior leadership of Bosera Asset Management through several American cities on investor meetings. Bosera CIO Charles Wang and Head of Macro Strategy Fengchun Wei shared their views on China with prospective investors and made some observations about the predominant Western perspective regarding investing in China.
Both Wang and Wei expressed surprise at the prevalence of the view that China is on a trajectory that can neither be altered nor stopped. Both are trained to look at prospective investments with a critical eye, but they see many more reasons for optimism than does the typical American investor. Only a generation removed from the cultural revolution, China has come a long way quickly, and while growing pains are to be expected, Bosera feels a backwards slide the scale of which many Americans are predicting is not a likely outcome.
Wang and Wei repeatedly pointed out that China’s new leadership is by far the single most important factor in China today. The new President and Premier are very aware of the issues China faces economically and socially. Before making a determination on China’s future, Bosera feels investors should evaluate what the new leaders have accomplished in their first year, the resources at their disposable and their stated priorities. Both Wang and Wei feel there is a preoccupation with China’s liabilities without considering the assets on China’s balance sheet. When looking at China’s future, they point out it is crucial that investors know and understand the leadership’s resolve to implement reform and head off a crisis.
As previously stated in China’s 12th Five Year Plan, there are four major areas of focus by the leadership to offset fixed investment as a driver of GDP:
- Technology & E-commerce – China needs to move up the value chain. Baidu, Alibaba, and Tencent, commonly referred to as BAT, are the role model for China’s continued push into technology and continued retail sales taking place on-line. Bloomberg estimates 7.9% of all retail sales took place online in 2013. In 1982 only 1% of the Chinese population had a college degree versus 10% today.
- Pollution – The leaders of China are very aware of this issue and are working to remedy the situation.
- Urbanization – In 1980 less than 20% of China’s population lived in cities. Today over 50% live in cities with another 100mm more to expected to move into cities within the decade as China moves toward the stated goal of a 75% urbanization rate. Urbanization raises the standard of living, provides access to service oriented jobs and has driven growth of their middle class. As China urbanizes the GDP per capita has increased. The healthcare sector will be a key beneficiary of urbanization as well.
- SOE Reform – Recently Chinese energy companies announced privatizing elements of their businesses. This reform will likely spread to other sectors. Bosera viewed the recent bankruptcy as a positive as it reaffirms the leadership’s commitment toward free markets and eliminating excess capacity. Eliminating overleveraged and poorly financed companies is a good thing.
Bosera does not know exactly when China’s markets will rebound. They do believe that valuations are very low (MSCI China A’s P/E of 11, P/B of 1.58 and P/S of 0.97 versus MSCI ACWI’s P/E of 16, P/B of 2, and P/S of 1.28). The market is at a three year low, has hit a level of technical support, and remains+60% off the all-time high. Like the S&P 500, EPS share of MSCI China A doubled since the financial crisis though China’s markets are up only 50% from the lows.
Historically, contrarian investors with conviction have reaped rewards for investing in China when some considered it to be in crisis. Bosera does not believe China is currently in crisis, though the firm does believe the equity market has priced one in. As the following examples highlight, past down-periods have made for good investment opportunities.
Post-Cultural Revolution late 1970s/early 1980s
Concerns: Economy in very poor shape.