The hostile speech by Mike Pence, the Vice President of the US, in early October was a big blow to China stock markets. The MSCI China Index and CSI 300 Index tumbled -11.5% and -8.3% respectively during the month.
Even the easing measures from the Chinese government like cutting the reserve requirement ratio and individual taxes failed to arrest the market meltdown. The Renminbi (RMB) ended the month at a year low of 6.98 vs. the USD, which was just a little short of the psychological threshold of 7. High P/E and beta stocks like internet, technology, Macau gaming and Chinese properties declined, while on the other hand, insurance and telecom stocks outperformed.
China 3Q GDP growth stood at 6.5%, slightly below expectations. Financial deleveraging and the looming trade war have started to have an impact on the real economy. If there is no breakthrough in the Sino US trade tensions, the Investment Adviser expects GDP growth to slow further in the next few quarters as investment and consumer spending continue to decline. On the trade front, export growth (in RMB terms) picked up to 17% in September from single digit growth in previous months as exporters accelerated the shipping of goods to the US in anticipation of more trade sanctions in 2019. The only consolation to investors so far is that the US did not classify China as a currency manipulating country after the review during the month.
The Chinese government has been vocal about tax cuts, but so far has only released details of individual tax reform. The Investment Adviser does not think that this will give a meaningful boost to domestic consumption as only a small part of the population is affected by the tax reform. The VAT tax cut, a much more powerful weapon, is still pending.
Macau gaming growth was below expectation in September, with the typhoon impact and weaker than expected traffic ahead of October’s golden week being the major causes. The trend in October also lacked excitement as VIP players avoided going to Macau ahead of President Xi’s visit to Macau at month end. Last but not the least, the sector downgrade by sell side analysts weighed further on the sell-off of Macau gaming stocks.
Finally, there was supportive news on the property sector, with the Guangzhou government announcing a price cap removal in a few districts. It seems even local governments are feeling the heat as land sales (a major revenue source to them) are on the decline. Since property prices remain at a high level, the Investment Adviser thinks that the large scale loosening of the property sector is unlikely at this stage. Nevertheless, the worst of the tightening should be over. If the economy continues to weaken, it is likely that there will be a more selective relaxation at local government level in the Team’s opinion.
The Fund was down -11.1% in October*, slightly outperforming the benchmark at -11.5%. The Adviser increased the exposure to Macau gaming and financials on attractive yields, while further reducing the weighting in technology due to a poor outlook on handsets. The fear of trade war is dominating investor sentiment with “No deal” currently implied in the depressed market valuation. That said the market is likely to re-rate if there are any positive developments in the trade talks as Xi and Donald Trump meet in the upcoming G20 summit in late November.
The views and statements contained herein are those of LBN Advisers Limited in their capacity as Investment Adviser to the Fund as of 19/11/18 and are based on internal research and modeling.