after the fall: the path forward for china’s economy and ... · after the fall: the path forward...
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© 2015 Matthews International Capital Management, LLC PT448_1015
AFTER THE FALL: The Path Forward for China’s Economy and Stock Market Matthews Asia I October 2015
The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation, but no representation or warranty (express or implied) is made as to the accuracy or completeness of this information. Matthews International Capital Management, LLC does not accept any liability for losses either direct or consequential caused by the use of this information.
The views and information discussed in this presentation are as of the date of presentation, are subject to change and may not reflect the presenter’s current views. The views expressed represent an assessment of market conditions at a specific point in time, are opinions only and should not be relied upon as investment advice regarding a particular investment or markets in general. Such information does not constitute a recommendation to buy or sell specific securities or investment vehicles.
Investing in international and emerging markets may involve additional risks, such as social and political instability, market illiquidity, exchange-rate fluctuations, a high level of volatility and limited regulation. In addition, single-country and sector strategies may be subject to a higher degree of market risk than diversified strategies because of concentration in a specific industry, sector or geographic location. Investing in small- and mid-size companies is more risky than investing in large companies as they may be more volatile and less liquid than large companies.
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© 2015 Matthews International Capital Management, LLC PT448_1015
Perpetual Forecasts of Doom and Destruction What mistakes have led so many analysts to predict imminent collapse for so many years?
1998 2001
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A-Shares Down Sharply, but a ‘Crash?’
SHCOMP down 34% from June 12 peak; but up 5% YTD and up 44% YoY (as of 19 October) Margin trading balance down 57% from peak to US$150BN
SHANGHAI COMPOSITE INDEX MARGIN TRADE (Rmb BN)
Sources: CEIC, Bloomberg
0
1,000
2,000
3,000
4,000
5,000
6,000
Aug-13 Mar-14 Sep-14 Mar-15 Oct-150%
2%
4%
6%
8%
10%
12%
0
500
1,000
1,500
2,000
2,500
Jan-13 Sep-13 May-14 Jan-15 Oct-15
Outstanding balance of margin trade (LHS)Margin trade outstanding as a share of total market capas a share of market cap of free float sharesas a share of free-float shares market cap defined by Bloomberg
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Chinese Consumers Shrug Off A-share Correction
50m active investors = 7% of urban population 73% of active accounts have less than US$15,000; less than 1% have more than US$1MN As the market rose (March-May 2015), bank deposits increased 10% YoY. Real retail sales rose 10.8% in September same
as a year ago. Chinese tourist arrivals in Japan up 133% YoY in August
REAL GROWTH RATE OF RETAIL SALES (YEAR-ON-YEAR)
Source: CEIC
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
Jan-10 Oct-10 Aug-11 Jun-12 Apr-13 Jan-14 Nov-14 Sep-15
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The World’s Best Consumption Story Year-on-Year changes in some consumer categories
133% Chinese visitor arrivals in Japan August
112% Apple’s greater China revenue 3Q 2015
76% Spending by Chinese at tax-free shops in Europe August
59% SUV sales September
56% Express parcel deliveries September
54% Movie box office revenue 2Q 2015
30% Nike sales in Greater China Three months ending August
19% Furniture sales September
14% Gasoline consumption August
11% Household appliance and electronics sales September
11% Inflation-adjusted retail sales September
9% New home sales September
3% Passenger car sales September
As of October 19, 2015, accounts managed by Matthews Asia did not hold positions in Apple Inc., or NIKE Inc.
Sources: Japan National Tourist Office; Company Data; Global Blue; CEIC; CNBC; National Bureau of Statistics of China
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Chinese Home Buyers Shrug Off A-share Correction New home sales up 18% in June, 21% in July, 16% in August, 9% in Sep vs -12% in Sep 2014
YOY GROWTH RATE OF NEW HOME SALES BY SQUARE METER
Source: CEIC
-20%
-10%
0%
10%
20%
30%
40%
50%
60%
Jan-10 Dec-10 Nov-11 Nov-12 Oct-13 Sep-14 Sep-15
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6.1
6.2
6.3
6.4
6.517-Jul 24-Jul 31-Jul 7-Aug 14-Aug 21-Aug 28-Aug 4-Sep 11-Sep 18-Sep 25-Sep 2-Oct 9-Oct 16-Oct
Depreciation
A Serious Devaluation? The RMB has given back 2% against the U.S. dollar (as of 16 October 2015)
Source: CEIC
RMB/USD
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Devaluation in Context Since July 2005, RMB has appreciated by 30% against USD as of Oct 19th; NEER has appreciated by 46%, and REER has appreciated by 57% as of September 2015
RMB/USD 2010=100
PBOC MID PRICE EFFECTIVE EXCHANGE RATE
Source: CEIC
Nominal EERs are calculated as geometric weighted averages of bilateral exchange rates. Real EERs are the same weighted averages of bilateral exchange rates adjusted by relative consumer prices. The weighting pattern is time-varying, and the most recent weights are based on trade in 2008-10.
5.0
5.5
6.0
6.5
7.0
7.5
8.0
8.5
9.0Jan-05 Mar-07 Apr-09 Jun-11 Aug-13 Oct-15
60
70
80
90
100
110
120
130
140
Jan-05 Feb-07 Apr-09 May-11 Jul-13 Sep-15Nominal effective exchange rateReal effective exchange rate
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Devaluation was Not About Export Competitiveness In first six months of 2015, world exports down 10.7% YoY; Germany -12.9%;China’s +0.7% Despite strong REER appreciation of the RMB, China’s share of world exports rose from 11.6% in 2011 to 14.3% in June
2015. From 2001-2014, CAGR of global exports +9%, China exports +18.2%
YOY GROWTH RATE OF REAL EFFECTIVE EXCHANGE RATE MARKET SHARE OF WORLD EXPORTS
Source: CEIC, WTO
-15%
-10%
-5%
0%
5%
10%
15%
20%
Jan-06 Mar-09 May-12 Aug-15
China Germany
6%
8%
10%
12%
14%
16%
18%
Jan-06 May-07 Sep-08 Feb-10 Jun-11 Oct-12 Mar-14 Jul-15
China Germany
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China has Been the U.S.’ Fastest Growing Export Market . . . by Far Growth rate of U.S. exports to its 10 biggest market, since China joined the WTO in 2001
Source: CEIC
97%
60%
180%
100%
30%
68%
3%
666%
116%
74%
177%
0% 100% 200% 300% 400% 500% 600% 700%
Total US exports minusChina
S.Korea
HK
Netherlands
UK
Germany
Japan
China
Mexico
Canada
Brazil
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Not Deleveraging, but Steadily Slower Credit Growth
TSF=Total Social Finance, or aggregate credit. Sources: CEIC, People’s Bank of China
YoY
0%
5%
10%
15%
20%
25%
30%
35%
40%
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 3Q15
Outstanding TSF Rmb loans outstanding Nominal GDP M2
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The Party’s Top 5 Mistakes
Putting the Party above the law
Lack of trusted institutions, and inhibiting the development of civil society
Blocking freedom of expression and political dissent
Slow to fix China’s environmental disaster
Overly aggressive approach to neighbors in the South and East China seas
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Mistake 1: Underestimating the Dominant Role of the Private Sector
Source: CEIC Data
Millions
0
50
100
150
200
250
300
350
400
450
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
201
1
201
2
201
3
201
4
State-controlled urban employment Private urban employment
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Not Surprisingly, Private More Profitable
Source: CEIC, MICM estimates
-50%
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
Jan-12 Sep-12 Jun-13 Feb-14 Nov-14 Aug-15
Profits by SOEs Profits by private firms
YoY
Profits for privately-owned industrials were up 13% YoY in August, the eighth consecutive month of profit growth In contrast, state-owned enterprise (SOE) industrial profits were down 44% in August, the 13th consecutive month of
declining profitability Privately-owned industrial firms now account for 35% of total profits of larger industrial firms, up from a 12% share a
decade ago
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Most Bank Loans Now to Private Firms
STOCK OF BANK LOANS
Sources: People’s Bank of China, CEIC, MICM estimates
Share
0%
10%
20%
30%
40%
50%
2006 2007 2008 2009 2010 2011 2012 2013
Private Sector
State-Owned Enterprises
Government and Public Institutions
Consumer and Mortgage Loans
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Mistake 2: Not Recognizing that Rebalancing is Well Underway
*Estimates Source: CEIC, MICM estimates
Percentage Points
Final Consumption Gross Capital Formation Net Exports of Goods and Services GDP Growth Rate, YoY (RHS)
0%
2%
4%
6%
8%
10%
12%
14%
16%
-6
-4
-2
0
2
4
6
8
10
12
14
16
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Services Now More Important than Manufacturing and Construction
Source: CEIC
Share of GDP
Primary industry refers to agriculture, forestry, animal husbandry and fishery and services in support of these industries Secondary industry refers to mining and quarrying, manufacturing, production and supply of electricity, water and gas, and construction Tertiary industry refers to all other economic activities not included in the primary or secondary industries, including real estate, finance, wholesale and retail, transportation and other service industries
SHARE OF GDP BY PRODUCTION APPROACH
0%
10%
20%
30%
40%
50%
60%
1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 3Q15
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Mistake 3: Underestimating Chinese Consumers
Sources: World Bank, International Monetary Fund (IMF) estimates
Real compound annual growth rate of final consumption from 2009 to 2014
8.7%
1.1%
1.0%
7.2%
1.3%
2.7%
5.0%
3.0%
1.6%
China
Germany
United Kingdom
India
Japan
Korea, Rep.
HK
Thailand
United States
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Real Growth Rate of Per Capita Household Income
Sources: CEIC, St. Louis Fed
YoY
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
12%
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Averagefrom2005to 2014
US China HK
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0 5,000 10,000 15,000 20,000 25,000
GDP
China's Bank Depositsby August 2015
Consumer Spending Backed by Big Savings, Not Debt Household savings greater than combined GDP of Brazil, India, Russia and Italy
*FI=Financial Institutions Source: CEIC, World Bank
Household Deposits Deposits of Non-
Financial Enterprises
Government Deposits
Brazil Italy Russia Russian Federation
Deposits of Non-Banking
FI*
India
US$ BN
2014
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Rebalancing Means Slower Growth is Inevitable, but Remember the Base
*2020 MICM Estimate Source: CEIC
RMB BN
*
10.1%
7.3%
5.0%
0%
2%
4%
6%
8%
10%
12%
0
1,000
2,000
3,000
4,000
5,000
6,000
7,000
8,000
2004 2014 2020EIncremental Increase in Nominal GDP Real GDP Growth Rate (RHS)
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0%
5%
10%
15%
20%
25%
0
1,000
2,000
3,000
4,000
Mar-09 Sep-09 Sep-10 Mar-11 Sep-11 Mar-12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Sep-15
Steady Wage Growth Signals a Healthy Job Market
*Surveys for the 4Q11 and 1Q12 time periods were not conducted. Sources: CLSA, CEIC
YoY
RMB per capita
WAGE GROWTH OF UNSKILLED FACTORY WORKERS AND SKILLED MANAGERIAL WORKERS*
MIGRANT WORKER INCOME YoY
Average Monthly Income of Migrant Worker (LHS) Growth rate (RHS)
-5%
0%
5%
10%
15%
20%
3Q07 1Q08 3Q08 1Q09 3Q09 1Q10 3Q10 1Q11 3Q11 1Q12 3Q12 1Q13 3Q13 1Q14 3Q14 1Q15 3Q15
Unskilled factory workers Skilled/managerial workers
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Regional Variations in China’s Growth Story Resource extraction and heavy industry concentrated in the northeast
Source: CEIC
1H 2015 GDP GROWTH RATE BY PROVINCE
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Mistake 4: Misunderstanding “Shadow” Banking and Debt Problems Most “shadow” credit is from party-controlled institutions
Sources: CEIC, MICM estimates
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 1H15
Rmb New Loans Foreign Currency Loans Enterprise Bonds Stock Financing by Non-financial Institutions
Shadow Banking
Other
Entrusted Loans
Banker’s Acceptance Bills Trust Loans
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Party Control—Regulators Applied Brakes to Trust Lending Growth rate of new trust loans slowed to -84% YoY through Sept 2015 from +532% in 2012
Source: CEIC
RMB BN YoY
-200%
-100%
0%
100%
200%
300%
400%
500%
600%
0
200
400
600
800
1,000
1,200
1,400
1,600
1,800
2,000
2012 2013 2014 3Q15
Trust loans Growth Rate (RHS)
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Debt is Concentrated Among State-Owned Enterprises (SOEs)
Source: Hong Kong Institute for Monetary Research
40%
45%
50%
55%
60%
65%
70%
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
SOEs
Private Firms
DEBT-TO-ASSET RATIO BY OWNERSHIP
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Mistake 5: Misunderstanding China’s Property Market 90% of new home buyers are owner-occupiers, who use a lot of cash
Source: CLSA
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Sep-07 2Q10 Feb-11 Aug-11 Mar-12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Sep-15
First-time buyers Upgraders Investors
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New home sales past peak but still healthy
*CAGR = Compound Annual Growth Rate Sources: CEIC, CLSA, MICM estimates
NEW HOME SALES BY SQM
YoY
Growth Rate of Residential Floor Space Sold
27.5
20.3 18.9
25.6
33.4
24.8
11.8
26.5
-15.5
45.4
8.3
3.4 2
17.5
-9.1
8.2
22.9
10.0
3.0
-20%
-10%
0%
10%
20%
30%
40%
50%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 3Q15 01-07*08-10*11-14*
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New Home Prices Softer, but Far from Collapse
Tier 1 cities: include Beijing, Shanghai, Guangzhou and Shenzhen Tier 2 cities: include provincial capital cities, plus Dalian, Qingdao, Ningbo and Xiamen
Tier 3 cities: all other cities not included in Tier 1 and Tier 2 Source: CLSA
CLSA NEW HOME PRICES, MoM
CLSA NEW HOME PRICES, YoY
-2%
0%
2%
4%
Nov-07 Feb-09 Jun-10 Oct-11 Feb-13 May-14 Sep-15
Overall Tier-2 Tier-3
-10%
0%
10%
20%
30%
40%
Nov-07 Jun-09 Dec-10 Jul-12 Feb-14 Sep-15
Overall Tier-2 Tier-3
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More than 150 Cities with a Population of One Million Plus Last year, more new homes sold in Hefei than in Beijing. More in Chengdu than in Shanghai
Source: CLSA
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Ghostly, or a Different Business Model?
Photos on left from cbsnews.com. Photos on right by MICM. Upper right photo taken in same location as upper left. Lower right photo is not the same location as lower left, but is illustrative of traffic conditions observed in Zhengdong in February 2015.
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China Will Continue to Drive Global Growth
Sources: IMF, World Economic Outlook (April 2014); IMF staff calculations
Contribution to Global Growth (percentage points)
-2.000
-1.000
0.000
1.000
2.000
3.000
4.000
5.000
6.000
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
China United States Japan European Union Rest of World World
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End of China’s One-Child Policy Politically important, but no change to demographic trends
Source: World Bank
0
1
2
3
4
5
6
1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
China Japan Indonesia South Korea Thailand
Births per Woman
1980: Enforcement of China’s one-child policy
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Active vs. Passive for China Market cap of MSCI China by sector and ownership
The MSCI China Index is a free float–adjusted market capitalization–weighted index of Chinese equities that include China-affiliated corporations and H shares listed on the Hong Kong exchange, and B shares listed on the Shanghai and Shenzhen exchanges. It is not possible to invest directly in an index.
Source: CLSA; data as of November 26, 2014
BY SECTOR BY OWNERSHIP
Other 28%
Private Firms 29%
SOEs 71%
Financials, Telecom Services,
Capital Goods, Energy, Utilities and Materials
67%
Food, Beverage and Tobacco 3%
Consumer Durables and Apparel 1%
Consumer Staples 1%
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0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
China China Dividend China Small Companies Matthews AggregatePortfolio*
Asia**
Services Consumer Health Care Finance Manufacturing Commodities
Exposure to sectors benefiting from secular trends How We Deal With This at Matthews Asia
*Consists of Matthews’ 15 strategies, not including the ESG Strategy which incepted April 30, 2015.
**Asia is a market cap weighted universe as defined by FactSet’s geographic classification. Sector exposures of largest account in each strategy. Sources: FactSet, MICM; Data as of May 12, 2015
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Today’s Speaker
ANDY ROTHMAN Investment Strategist
Andy Rothman is an Investment Strategist at Matthews Asia. He is principally responsible for developing research focused on China’s ongoing economic and political developments while also complementing the broader investment team with in-depth analysis on Asia. In addition, Andy plays a key role in communicating to clients and the media the firm’s perspectives and latest insights into China and the greater Asia region. Prior to joining Matthews in 2014, Andy spent 14 years as CLSA’s China macroeconomic strategist where he conducted analysis into China and delivered his insights to their clients. Previously, Andy spent 17 years in the U.S. Foreign Service, with a diplomatic career focused on China, including as head of the macroeconomics and domestic policy office of the U.S. embassy in Beijing. In total, Andy has lived and worked in China for more than 20 years. He earned an M.A. in public administration from the Lyndon B. Johnson School of Public Affairs and a B.A. from Colgate University. He is a proficient Mandarin speaker.