Earlier this week, the 19th National Congress of the Communist Party began in China and kicked off with a marathon speech by President Xi. The speech, which ran for almost 3 and a half hours, showcased Xi’s accomplishments in the last 5 years and outlined a sweeping vision for the future. The aspects of the speech that have implications for the Chinese market in general, and for our portfolio specifically, include: time frame, China’s role in the world, capital market and currency liberalization, State Owned Enterprise (SOE) reform and the One Belt One Road initiative. Each of these are discussed below.
Time Frame
President Xi laid out a vision for a “new era” in China which aims to be a prosperous society by 2020 and a country with strong global influence, an innovative economy and a strong military by 2050. President Xi has a very long term perspective and wants to go down in the history books with Deng Xiaoping and Chairman Mao. This long term perspective is important for investors to keep in mind when they are fixating on quarterly earnings, monthly data releases or the daily RMB fixing.
China’s Role in the World
China is increasingly taking a more central and “grown up” role on the world stage. In the work report speech, Xi reiterated this transition, showcasing China as an alternative development model for other emerging market countries. He commented on the importance of addressing climate change and rejected isolationism on trade. Both comments were intended to contrast to the views of President Trump and highlight China as a responsible global power.
Liberalization of Chinese Capital Markets and Currency
President Xi stated that “China will not close its doors to the world, we will only become more and more open.” He also made comments on further market oriented reforms of the exchange rate, interest rates and the financial system as a whole. Since inception, one of the 4 core thematics underlying Ellerston Asian Investment’s portfolio is Liberalization of Chinese Capital Markets, so we found these comments heartening. Our investments in Hong Kong Exchange and Chinese A share companies like Midea and Moutai and Yili, are plays on this thematic.
SOE Reform and One Belt One Road
We think that following the 19th Party Congress there will be a renewed focus on SOE reform, particularly supply side reform, and Xi mentioned deepening SOE reform in his speech. The infrastructure push via the One Belt One Road (OBOR) initiative was also highlighted. We own stocks like Anhui Conch Cement to benefit from ongoing supply side reform and stocks including China Communication Construction as a play on OBOR.
What Xi Didn’t Say
There were 2 notable omissions from the work report speech. First, there was no specific mention of GDP growth targets. Some economists predict that strict GDP targets will be downplayed going forward with the composition of GDP (consumption vs fixed asset investment led growth) and the “quality” of growth (beautiful china) becoming increasingly important. Secondly, there was no comment on North Korea.
What happens after the Party Congress meetings?
Analysis of stock market returns after previous Party Congresses and Plenums shows that the MSCI China Index is typically flat or down during the meetings but gains ~3% on average the week after these meetings and rises over 6% 2 months after. The only time when these trends didn’t hold was in 2007-2008 and this was in the global market context of the GFC. While the work report speech provided a broad roadmap, we expect more specific policies in the coming weeks.
Conclusion
We are overweight China in our portfolio, both Hong Kong listed China H shares and domestically listed China A shares. We continue to be constructive on the market and note that China remains the least expensive large market in the world at 12x PE for the Hang Seng Index and only 8x for the Hang Seng China Enterprise Index (HSCEI). EAI analyst Eric Fong is on the ground in China and Hong Kong for the next month and we are looking forward to his on the ground reports. Stay tuned…
Roadshow
We are hosting a Roadshow for both our LICs (ASX:EAI & ASX:EGI) in the comings weeks. Please click the below link to register and secure a seat. We look forward to seeing you there: https://ellerstoncapital.com/investor-roadshows-2017/