Views on the current health of the Chinese economy differ widely, but it’s hard not to be impressed by the progress the country has made in the last 20 years. Gross domestic product (GDP) per capita has risen more than ten-fold to around US$8,000 over this period, with much of this growth occurring in the last decade alone.
Yet behind these achievements lie some well-known imbalances, especially in the financial system. Debt to GDP has ballooned in recent years from 140% to 280%. Much of this sits with state owned companies or in the so-called shadow banking network.
Though valuations of some companies are at multi-year lows, there continue to be question marks over the common governance issues that are unfortunately present in many Chinese companies.
However, there do appear to be interesting and largely neglected opportunities in some of the healthy, well-managed, cash-generating, consumer-facing companies that enjoy well-established and sustainable competitive advantages. And our recent visits to China have highlighted some potentially interesting ideas worthy of further investigation.
A different way of investing in emerging equities with LGM Investments
Despite the recent volatility of the markets, we think that emerging equities offer potential long-term growth. At LGM Investments, which has been part of BMO since 2011, supports us in this market, we combine the unique expertise of a specialised boutique and the support of a large investment company that has financial strength.
As emerging market based companies grow within international equity markets, they play an increasingly important role in the allocation of assets within a portfolio of global funds. These companies can potentially offer higher returns in the long run than developed markets, due to the rapid development of their economies. Therefore, they offer added value in the diversification of portfolios in this current low returns environment.
Our goal is to invest in high-quality companies which show significant revenue potential and are based on a sustainable growth model positioned in sectors that benefit from secular growth, such as consumables or finance,. In general, we adopt a different approach to that of the MSCI Emerging Markets Index, which has a bias towards more mature and almost developed markets. We think that this index fails to reap the benefits of secular growth in emerging markets.
While the MSCI Emerging Markets Index is very important in China, South Korea and Taiwan (the latter two countries are very close to developed country status), we look beyond these countries. Our focus is on countries where we believe there is long-term potential in terms of favourable demographics and income generation, such as India, Indonesia and the Philippines.
Therefore, our funds have less exposure to China compared to the benchmark. In China, as we mentioned above, we currently do not find many interesting high-quality companies, mainly because of our discomfort with corporate structures, governance and alignment between majority and minority shareholders.
In terms of sectors, the MSCI has significant exposure to areas such as information technology, telecommunication services and energy (sectors that may be affected by global trends and changes in short-term volatility). We are currently focused on consumer and financial sectors. Basic consumer goods such as shampoo or daily products will continue to be purchased throughout the market cycle, regardless of concerns that may arise around growth or commodity prices.
To read more about Team’s views on China, download the content below.