China sell-off: time to worry or a chance to buy?

Investors lured by rapid growth in China are having their nerves tested following dramatic stock market falls and even predictions that the country is facing its own Wall Street crash. British investors are counting the cost with Fidelity China Special Situations, a popular fund in the UK, having lost 30pc in just six weeks.

The authorities are scrambling to prevent the slide, with mixed success, but experts predict more pain to come. The country’s main Shanghai Composite Index dropped almost 6pc on Wednesday alone before a recovery later in the week.

Is the current turmoil a blip, or something more?

For UK investors in China, volatility is nothing new and few will have complained about the 55pc leap that shares made this year before the slide began. A trigger for the rapid rise and fall this time has been millions of domestic Chinese investors effectively borrowing to buy shares, and then having to undo these positions. The process could have further to go.

The chart shows the rise and fall in the Shanghai Composite Index this year, peaking on July 12. Source: Bloomberg

There is a fresh concern, that price falls reflect deeper problems in the economy. This, in turn, has been enough to drag down global commodity prices.

While it is the world’s second largest economy, China is still developing and some economists fear it may be nearing a key moment when its “demographic dividend” comes to a sudden halt.

They say the huge supply of labour that has fed fast-growing cities will peter out and the current glut of workers will hit retiring age in large numbers. A smaller generation that follows, made smaller still by the country’s one-child policy, will be unable to fill their place to keep growth on track.

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Companies will have to pay dramatically more for labour and profits will plummet. Investment experts, though, are more sanguine and see recent falls as an opportunity to buy good companies cheaply.

The Fidelity China Special Situations Trust, which was the last home to legendary investor Anthony Bolton before he retired last year, has seen the value of its assets fall from £990m in May to £695m this week.

However, the current manager, Dale Nicholls, said: “Investors have clearly been spooked by the correction in the markets, but I think this is overdone and is creating good buying opportunities.”

He said it “will likely take some time” before overstretched small investors unwind their positions but added: “The path for reform is set and this will continue to create opportunities, especially for innovative private companies.”

Companies will have to pay dramatically more for labour and profits will plummet.

Investment experts, though, are more sanguine and see recent falls as an opportunity to buy good companies cheaply.

The Fidelity China Special Situations Trust, which grabbed attention as the last home to legendary investor Anthony Bolton before he retired last year, has seen the value of its assets fall from £990m in May to £695m this week.

However, current manager Dale Nicholls says: “Investors have clearly been spooked by the correction in the markets, but I think this is overdone and is creating good buying opportunities.”

He says it “will likely take some time” before overstretched small investors unwind their positions but adds: “The path for reform is set and this will continue to create opportunities, especially for innovative private companies.”

Does all this make China cheap?

The share price falls have brought valuations of the Chinese market down with them. The Hong Kong Hang Seng index, where foreign investors can access shares in companies from mainland China, is trading at nine times earnings – cheap by international standards and actually slightly below its long-term average.

That, however, is not the whole story, according to Julian Mayo, manager of the Charlemagne Magna Emerging Markets Dividend fund.

“More than most markets, China is divided between good and bad companies,” he said. “A large amount of the index is taken up with poor quality, state-owned companies. Particularly in commodities and financials.”

The Chinese government’s support to these large companies can give a false impression of good value, according to Mayo. He added that Charlemagne is underweight in China and prefers other emerging regions, such as Latin America.

How best to invest in China now?

Jason Hollands of financial adviser Tilney Bestinvest said his firm has no China-focused funds on its buy list but, for those with the stomach for it, he favours Liontrust Asian Income.

Managed by Mark Williams and Carolyn Chan, the fund invests across Asia, excluding Japan, but currently holds 42pc of investors’ money in Chinese companies. Its remit to produce income leads it towards established companies that can pay dividends, Mr Hollands said.

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The fund is down 5.7pc over six months, compared to a 1.5pc fall in its benchmark, but is up 4.6pc and 22.4pc over one and three years respectively, versus 4pc and 21.5pc. It currently yields 4.4pc and investors buying the “I” share class through a fund platform will pay an ongoing charge of 1.16pc.

If you want to access China on the cheapest terms you can, exchange-traded funds (ETFs) will track Chinese stock markets for a lower cost. The HSBC MSCI China Ucits ETF has an ongoing charge of 0.6pc and UK investors should choose the sterling class of the fund to avoid the risk of currency swings.

An alternative that could reduce exposure to the most volatile stocks, but without the cost of a fund manager, is the PowerShares FTSE RAFI Hong Kong China Ucits ETF. This tracks an index that has been filtered so companies with higher revenue, cash reserves and dividends are given greater prominence. This helps to reduce volatility.

 

[“source – telegraph.co.uk”]