JEAN PIERRE VERSTER: Opportunities in the East
SA investors have benefited greatly from their exposure to Tencent, but should look further in the Middle Kingdom
The founding of the People’s Republic of China in 1949 is commemorated annually on October 1, China’s National Day. This year, a full moon fell on this date, kicking off the Mid-Autumn Festival (also known as the Moon Festival) across Southeast Asia.
The coincidence of these two important holidays meant "Golden Week" celebrations lasted for eight days this year, rather than the usual seven.
Many Chinese citizens seized the chance of the extended break to enjoy a domestic getaway from October 1 to 8.
For global investors, China also offers an opportunity worth seizing.
The country’s rapid economic progress continues to fuel global growth, as has been the case for the past two decades.
The nature of China’s economic development has shifted over this time, however, from infrastructure-led growth to consumption-led growth.
Consumption of technology-enabled services has grown particularly strongly, with the leading tech giants Alibaba, Tencent and Meituan Dianping (collectively known as the ATM of China) now representing about 40% of the MSCI China index.
All three of these groups are actually Cayman Islands-domiciled companies, with shares listed in Hong Kong and American depository receipts (ADRs) listed in New York.
They own domestic Chinese consulting firms which, in turn, have variable contractual arrangements with the respective operating companies in the Chinese internet sector.
The variable interest entity structure is employed due to China’s restrictions on foreign ownership of companies that are operating in strategically important sectors.
For companies that don’t operate in strategic industries with associated foreign ownership restrictions, an investor can buy shares in the Chinese domestic operating companies directly.
They are referred to as H-shares, when listed in Hong Kong, and A-shares when listed on one of the two mainland stock exchanges in Shenzhen or Shanghai. Since late 2016, foreign investors have been able to buy Chinese A-shares via the Hong Kong Stock Exchange’s Stock Connect link with relative ease, notwithstanding daily quota limits on the total value traded.
The link significantly improved investor access to China and has contributed to Chinese A-shares being included in various investment indices. Let’s take a brief look at some interesting companies with publicly listed A-shares.
This is the largest company listed in mainland China, with a market capitalisation exceeding $300bn. It has a history of more than 200 years in producing Moutai, the leading brand of baijiu, which is a clear spirit distilled from fermented sorghum.
Baijiu has a similar level of alcohol content to vodka, and is traditionally consumed in ceremonies and in engagements where business ties are strengthened.
Rare bottles of baijiu are collector’s items, often used as gifts, and can sell for very high prices. The share has been a 10-bagger over the past five years, returning more than 55% a year, and we would wait for a significant pullback before buying.
Kweichow Moutai’s main competitor, Wuliangye Yibin, is less than half the market leader’s size but has had a similar share price performance over the past five years.
Ping An Insurance Group
With more than $100bn of gross annual premium income, Ping An is the world’s second-largest insurer after Berkshire Hathaway. JSE-listed Discovery Holdings has a 25% stake in its health insurance subsidiary, Ping An Health, which continues to exhibit exceptional annual profit growth. China has a closed financial system with active state involvement, which is often associated with inefficient capital allocation by major financial services firms.
While there are some question marks around the balance sheet exposures of many Chinese banks, most of the Chinese life insurers are in a strong financial position.
Ping An is arguably the best-run financial services group in China, and we find value in the current share price. In contrast, its major competitor, China Life Insurance, is not an attractive investment right now, in our opinion.
BYD (Build Your Dreams)
Warren Buffett invested in BYD in 2008, partly because of the positive impression that the company’s founder, Wang Chuanfu, made on him. The shares have risen more than tenfold since.
BYD is a world-leading manufacturer of battery-powered cars, buses, bicycles and forklifts.
It was the second-largest seller of electric vehicles worldwide in 2019, after Tesla.
BYD has recently expanded battery sales to other automakers, announcing a joint venture with Toyota earlier this year. This brings it into direct competition with another major A-share listing, Contemporary Amperex Technology Ltd, better known as CATL.
We have held BYD’s H-shares in our global funds since mid-2017 but view CATL’s shares as expensive.
There are more than 1,800 companies with a market capitalisation above $1bn listed in Shenzhen or Shanghai, making it increasingly difficult to exclude Chinese A-shares when investing globally.
SA investors have benefited greatly from their indirect exposure to Tencent over the years, but should look further than just the ATM when exploring investment opportunities in the Middle Kingdom.
- Jean Pierre Verster is CEO of Protea Capital Management
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