We're seeing green shoots of recovery in China: Nicholas Chui

We are starting to see some green shoots of recovery at the economic level. We are certainly seeing that happen at the company level with sequential growth in some of the earnings of companies. As we start to see a more robust and a broadbased picture of recovery, a lot of that investor interest is going to turn back. 

Q. By when do you see that?

China has only reopened this year but the levels of growth in some sectors are quite impressive. Now, obviously, the growth hasn't been broadbased—the property sector that continues to be a bit of a drag. A lot of the intense government policies were launched since July and been coming in rapid succession. This will take time to repair confidence at consumer level, corporate and government.  So, looking towards 2024, I think the ingredients are there to allow for a recovery to be a lot more sustainable, as well as broadbased. What we are looking out for is how this recovery broadens out.

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Q. Do you see that happening in 2024?

I think at some point in 2024. It will probably be a bit more challenging in 2024.

As an investor, to be fair, I need to be realistic about the timing as well. Let’s not forget a lot of government policies are only being announced now. I have to give it at least six months to run. Talk about the big bond package that will boost GDP, but $1 trillion doesn't get spent overnight. I will give it at least six-nine months to start to work its way into the system. Probably, realistically, second half of 2024 is when you could expect a bit more broader and more noticeable and obvious signs across sectors. 

Q. Adding to complexities and complications that the country was already facing, another asset class opposed to equities gave better returns in 2023. Unfortunately, there were wars. China was already struggling after Covid and a stricter lockdown, thereafter. Do you think, for China, it will be longer-than-expected to get back on its feet? Are you re-strategising your portfolio?

If we look at the rate trajectory globally versus China, the difference is something to be aware of. A lot of the challenges we are seeing in asset classes globally is because of high global rates. China doesn't face a higher rate situation. Rates have been going down. So that's actually quite constructive. At least it's not a headwind, for investing in equities. That's the first thing. 

Now obviously, with rates going down, it poses pressures for its currency, which affects some of the sentiment. But again, if we look at the rate differential between global, US versus China, a lot of that widening of the differential, most of that, should be behind us now. That's basically taking the view that most of the rate hikes in the US should be close to done, if not done already. 

Q. Have you reduced exposure to Chinese equities over the last two and a half years?

For earlier parts, since Covid, a lot of our assessment was accurate. Not so much about reducing allocations, but playing more defensive.

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The single-biggest event was the reopening of China. Now when I talk to companies, it's refreshing. People can talk about growth, have projections. Companies used to not even have projections, because they didn't have the visibility. It was about surviving of the balance sheet. It was about whether they will be in business tomorrow. Those conversations are behind us. 

I am running a China fund, my exposure has always been the same. I have to be pretty much fully invested, that is the framework.  

Q. So, you re-strategised?

Exactly. We are taking a bit more conviction bets, sizing up the bets. Previously, it was about spreading out the bets a bit more, because you weren't really too sure who would survive. Now we are getting a better handle of that. We have seen companies that have the right ingredients such as innovation. We have a better picture of who we think can grow and grow faster than the market, as the economic recovery takes hold.

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Q. Which sectors are those?

For instance, industrials, we like sustainability. We like the supply chain, which is breadth and depth of China. Sustainability, if you look at the level of innovation and what Chinese companies are now able to provide for themselves, as well as the world, in getting to net zero targets, is extremely exciting. China once used to be the factory for the world, it's not a factory for itself. But it's a high value factory for itself. That's the key thing. The innovation. Within financials, there is a lot of potential. China has been pivoting away from poverty. 

Q. What about consumption?

For railway travel, the numbers are percentage higher than 2019. That's pretty impressive, isn't it? It's only been about ten months. Some of the leisure destinations are reporting revenue numbers that are higher than 2019 already. The way people are spending is changing as well.

Q. Do you think fund managers are able to really find the correct valuations for new age technology-based consumer companies, especially when they go to the primary market for listing?

That was a huge challenge and it looks like it's a challenge now, because global rates are high. So, everyone's valuation framework has had to kind of reset. What you used to pay for and what you pay for now, the perception of that value has changed, because of rates. And what it has done to the outlook of some of these businesses that are pre-revenue, pre-cash flow, and even with debt. The rate cycle has a huge impact on the valuation framework.

That's why a lot of investors are no longer just loosely paying up for certain businesses. That is actually a good thing because that was almost a disaster waiting to happen. What was five times price-to-sales, became ten times, fifteen times. There was no concept of where the valuation anchor really was.

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The good thing now is, as investors have accustomed to that high-rate environment, and that big reset in valuation framework has already happened. That is why you are not seeing deals that are price-crazy because the market has been very sensible.

Q. Were you so conscious about valuation even before the rate hike cycle started?

Within emerging markets, we have always been focussed on buying businesses that have sustainable earnings growth, backed by balance sheets and cash flows, coming at a reasonable valuation.

Q. What is a reasonable valuation?

Reasonable valuation is relative to the industry to what we think it should be worth.

The intrinsic value, not taking the market valuation, and going with that. We have never been chasing up the valuations. With that discipline and approach, we have actually avoided a lot of businesses in China. When we look at businesses, we assess how sustainable is the earnings stream, regardless of rate cycle.

Q. How tough was it for you to manage China funds during the last three years?

It was difficult because, number one, the visibility of the company’s growth was missing due to longer lockdowns. What made it more difficult for us, as fund managers, is that we just couldn't travel as easily onto the mainland, even within the mainland, to do diligence. For us, being able to see companies on the ground, meet the company management, see the factories, look at the products and services, it's quite basic for us. It's part and parcel of our role and not being able to do that just made it that very challenging. Now that's changed a lot on both fronts. And that's why, from here on, we are a lot more constructive because I can see companies now.

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A lot of research in the last three years was secondary research, word of mouth, reading someone else's report, someone else's accounts. As investors, we always pride ourselves in proprietary information, first hand and we make our own analysis.

Q. Are you keeping your eyes on companies in China which are export-oriented?

Yes, exports have always been an important part of the Chinese economy. The percentage of the GDP is sizeable, it's been a big driver of growth, and definitely reflects levels of innovation and pricing power that a lot of Chinese companies have. And that's why the export numbers are so high now. If I am looking at currency, obviously it's been a lot weaker, and that's a tailwind, it helps the exports.

What I think actually is even more interesting is the domestic opportunities. People talk about recession globally, etc. What we prefer to focus on is actually what China can control for itself, which is China for China. It's domestic supply chains for domestic consumption, because regardless of what the world does and how the currency operates, that demand-supply dynamic doesn't go. As an investor, I am trying to reduce the areas I cannot control. It's very difficult to predict currency, it's even more difficult to predict if the US is going to be in a recession. Whereas in China, if I just focus on China's demand, China's supply chain, and there's plenty of that, I think that's the big enough playground to play with it.