Lengthy article ahead. This article will touch on the scorecards of US vs China in the trade war, milestones and updates on the China growth story, answer why the China stock market is comparatively cheaper and how I have positioned my investments.
US VS China: Trade War Updates
Trump is unhappy about the situation where US suffers from high trade deficit with China [1]. For US to buy fewer China goods, a solution is to impose tariffs. This could be because, on a trade war based on tit-for-tat tariffs alone, China might be at the losing end. However, China could have other bargaining chips. Recently, the state-backed People’s Daily hinted that Apple has reaped benefits in China, of cheap labour and a strong supply chain. This has helped Apple to lift profits and achieve a US$1 trillion valuation [2]. These figures dwarf the US$375 billion trade deficit. China have cautioned that US companies in China could be used as ransom if the trade war escalates [2]. Relationships should be mutually beneficial. Having helped Apple to flourish, Chinese companies involved in Apple’s supply chain benefited an unproportionate 1.8% of the profits generated by the flagship product [2]. The US company was warned that a larger portion of the profits should be shared with its locals if it wants to continue reaping the benefits of China [2]. Even back in the 2008 sub-prime crisis, US requested China to buy their treasuries (US debt) [3] which China agreed and became the largest holder of US treasury bonds [4]. China’s international presence have grown. October 2018 official data reported China's exports grew 15.6 % year on year, while imports rose 21.4%, both exceeding analysts' expectations [5]. These figures suggest the world is increasingly dependent on China for goods and consumption of goods. President Xi Jinping vowed to open up China’s economy and advocated for globalization during 2018 Asia’s Davos [6]. This isn’t just empty talk. China and 15 other countries are moving to form the world’s largest trading bloc through the Regional Comprehensive Economic Partnership (RCEP) [36]. This contrasts with Trump. Trump focused on protectionism and pulled out of the Trans-Pacific Partnership (TPP) [7]. The 11 remaining countries agreed to push on with the pact without US, rebranding it as the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) [8]. China was reported to be considering participating, having been denied from it previously due to trade tensions with the US [9]. Even as new tariffs on $200 billion of Chinese goods ie being contemplated [10], the ongoing trade tensions presented itself as an opportunity to expand trade between China and Russia [11]. Other countries are also forming alliances in light of US protectionism [12]. In a summit, 28 European Union states was joined by 20 Asian leaders such as China’s Li Keqiang and Japan’s Shinzo Abe to reiterate the importance of free trade. China, the European Union, Canada, Mexico, Norway, Russia and Turkey have also banded together to seek a panel of adjudicators to be established in WTO to judge the legality of steel and aluminium tariffs which was imposed on March 2018 [13]. These metal tariffs have cost American automaker, Ford $1 billion in profits [14], which hopefully, would entice the American company to return its manufacturing base to US. However, Ford did not share the same enthusiasm. Not only did the American automaker cancelled the release of its new Focus Active model in the US market, it planned to continue manufacturing cars in China [15]. The high costs to relocate its manufacturing base to US outweigh those of tariffs on imports [15]. Likewise, Tesla announced plans of its first overseas manufacturing plant in Shanghai [16]. In the same month, ExxonMobil signed a deal to build a petrochemical plant and to fund a liquified natural gas (LNG) terminal in China [17]. To add on, notable Michael R. Bloomberg mentioned the Trade War as “Failure of our government” [18].
Due recognition for China
1. Reported in Bloomberg, Chinese outbound tourism has generated huge growth for the world, creating up to 100 million jobs from Chinese overseas consumption. World Tourism Organization reported Chinese tourism expenditure made up 21.4% of the market share, more than twice as large as US (10.1% of market share) in the second place [19]. China held the No.1 position in outbound tourism status since 2012 and still experienced a 12 percent growth in tourism expenditure from 2015 to 2016 [19]. These numbers show the prowess of the Chinese market and the area available for growth.
2. In 2016, the World Intellectual Property Organization (WIPO) reported that they have received a record number of patents filing from China [20]. China has made a jump in its technological capabilities. Recently, Ping An launched its AI HealthTech company to the world, Ping An Good Doctor. Utilizing Artificial Intelligence (AI), enabled by smart voice, semantics and other technologies, it increases the efficiency of doctors by more than five times. In 2017, Ping An Good Doctor provided more than 370,000 medical consultations per day. Softbank legendary investor Masayoshi Son commended that Ping An Good Doctor’s AI Healthcare Technology is the most advanced in the world [21]. (If you have tracked my portfolio and previous blogs, you would have noticed that Ping An is my largest shareholdings in my portfolio with average price bought at HKD$40+.)
3. China is on path to produce new millionaires three times as fast as the U.S [22]. This reinforces the trend of rising middle class in China.
4. China is producing two new billionaires a week and leads the way as the world’s billionaires get richer. Chinese billionaires nearly double the pace in wealth expansion, growing by 39% to US$1.12 trillion [23].
5. Currently, most of the top 10 largest public companies in Forbes 2000 are Chinese companies [24].
6. President Xi Jinping spoke much on the supply side reform and moving up the value chain during China’s 13th five-year plan. In terms of fintech adoption rate, China has already surpassed US [25].
Developments in China
Although China’s GDP growth rate is slowing, China’s industrial profits, import and export data, national reserves, both manufacturing and services Purchasing Managers' Index (above 50 indicates expansion) are still improving as it is fuelled by the rising middle class, domestic consumption and moving up the value chain in particular, the service sector (e.g. fintech, e-commerce, AI etc.). Moreover, we see a reduction in shadow banking activities [26]. I am sure it is common to hear colleagues or friends being sceptical of Chinese products. While I do agree that there are low quality products made in China, the speed of improvement in the quality is exponential. I myself have switched from using Apple to Huawei mobile phone which is of the same quality but comes at a much cheaper price. With regards to 5G developments, China has made it challenging for US to catch up [27]. Some numbers in Deloitte’s study supporting this statement [27]:
1. “China has built 350,000 new cell sites, while the U.S. has built fewer than 30,000 in the same time-frame.” 2. “The equipment necessary to add a carrier in China cost about 35 percent less than the U.S.” 3. “Washington would need to spend 2.67 times the amount that China does to generate an equivalent amount of wireless network capacity.” China has invested much into 5G and its efforts are paying off. While winning the race to dominate 5G technologies, China has put its money in the right direction. Huge growth is expected to be enabled by 5G technologies. Quoted from another study by IHS Markit, $12.3 trillion of economic output is expected to come from 5G [27]. It would support driverless cars, connect infrastructures in addition to other consumer applications. China is now the world’s largest online community. The number of internet users is as large as the total population in the United States, Indonesia and Brazil combined [28]. This huge market is a golden opportunity to tech companies. Furthermore, there is room for profits to grow with two in five Chinese residents still offline [28]. Other developments include the setting up of the Asian Infrastructure Investment Bank (AIIB) and the One Belt One Road (OBOR) [29]. We observed that the Chinese government is shrewd in launching the anti-corruption campaign in 2012 [30]. Chinese companies are playing a larger role internationally. Some recent tie-ups include Singapore Airlines working with Alibaba to benefit from China’s fast-growing travel market [31], collaboration between Nanyang Technological University (NTU) and Alibaba on artificial intelligence research [32], Singapore’s Grab moving into health care with Ping An Good Doctor [33], etc.
But why is the Chinese Stock Market so weak?
The Chinese stock market, having been around for only approximately 30 years, is not as matured as compared to the US market which have been active for the past 200+ years. Unlike the US market, the China market is still dominated by retail investors [34]. The US market has also been through similar growing pains back in the past such as triggering of the stock market circuit breakers. Currently, less than 10% of the Chinese buy shares [35] which is a huge contrast compared to 50% of the Americans owning shares. There is huge room to run for the Chinese stock market with a population of more than 1.3 billion as compared to US population of 300+ million.
What I did?
Warren Buffett sells shares during market frenzies (share price way above intrinsic value) or when a company loses its competitive advantage. Another reason is when he finds a better contender and swaps over to it. Such as selling IBM and buying Apple [37]. If we take a look at Warren Buffett’s favourite indicator “Market Cap to GDP” we see US standing at 140% [38]. Currently, China stands at 39% (historical high >600%) [39]. Hence, in my opinion China is very undervalued. Recently, we observed heavyweights like Blackrock, Bridgewater Associates, Fidelity, UBS setting up onshore funds in China [40]. Ray Dalio, founder of the world’s largest fund Bridgewater Associates commented that he’s worried about the economy but bullish on China [41]. Warren Buffett mentioned in an article that China did a total economic miracle and that the Chinese are destined for a fine economic future just like the US [42]. Charlie Munger said in a CNBC interview that China’s best companies are cheaper than US’s best [43]. In addition, our late (Singapore’s) founder Mr Lee Kuan Yew predicted that China would emerge as a global power [44]. A PwC study noted the Chinese economy will overtake the US by 2030 [45]. A separate study done by IMF and HSBC reiterated the same view [46]. Furthermore, some economists argue that the Purchasing Power Parity (PPP) is a better measure of an economy than the nominal Gross Domestic Product (GDP) [47]. PPP is a theoretical exchange rate that tells you the amount of goods and services you could buy in a particular country if all countries used the same currency [48]. More of what it means can be found in [49]. If based on GDP at PPP, China has surpassed US as of 2016 [47]. Moreover, corporate earnings are boosted by US's corporate tax cut [50], driving up the already overvalued US stock market. This is a one time increase in corporate earnings and does not indicate an actual growth of the US market. It is unsure how much real growth could result from this bill . As reported by CBS news, US stock market is heading towards the longest bull market in its history [51].
As of Sep 2015, I have swapped all my Singapore Shares to Chinese Shares, into some of the largest banks, insurance companies and tech companies like Tencent. I prefer to buy stocks when most are sceptical so that it is cheap rather than buying them during a market frenzy (when most analysts are giving buy calls). Sep 2015 is the period when most news was reporting on the China debt crisis. Quote from Warren Buffett “We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.” My previous purchase of Tencent was when it was trading at HKD$133.3. Subsequently, it shot up to HKD$471 and lost steam to around HKD$280+ recently due to earnings below estimates, gaming slowdown, macro pressures of the trade war, etc. I was lucky to have sold some shares at HKD$432. However, I am still bullish on Tencent in the long run. Therefore, I did not liquidate all my Tencent shares.
Disclaimer: Just sharing from experience as I have put my own money into the stock market over the period of 17 years. I am not a Chartered Financial Analyst (CFA) Charterholder and do not have any finance-related qualifications.
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Reference Links:
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