Mark Dampier: Fidelity stays true to China and investors should keep the faith too
Friday 25 July 2014
Fidelity China Special Situations has taken a fair amount of flak since it was set up in 2010. Launched with the renowned fund manager Anthony Bolton at its head, the investment trust hasn't lived up to many investors' expectations.
Importantly, however, the trust beat the MSCI China index over Mr Bolton's tenure – something that tends to be overlooked. I can't help but feel some of the media had some responsibility for scaring investors away at exactly the wrong time, following a short spell of poor performance in the trust's early days. As I write, it is only around 3 per cent ahead of its launch price, though it is often forgotten that the broader Chinese market has also been poor over this time.
That was the past. With 18 years' investment experience and a similar philosophy to Mr Bolton, Dale Nicholls took over management of the trust at the start of April 2014.
Stock picking drives the construction of the portfolio. Mr Nicholls looks at companies' growth prospects over five to 10 years, seeking cash-generative businesses with the potential to reinvest capital in high-growth opportunities. He favours exceptional management teams – vital for small and medium-sized companies, where the trust has a bias, to thrive. In this area of the market, less information is widely available and more valuation anomalies appear, providing a perfect hunting ground for stock pickers.
Mr Nicholls has worked closely with Mr Bolton since the start of this year, since which point no trades have been placed without the new manager's approval.
The portfolio hasn't changed dramatically, though profits have been taken from some holdings, such as Wing Hang Bank. The stock has since been sold amid a prospective takeover. A position in Tencent, one of the world's largest internet companies, was also topped up after its share price fell around 30 per cent amid a global sell-off in the technology sector. The stock has since recovered.
The big story, however, is China's shift from an investment- led to consumption-led economy. Consumer-related sectors could benefit from China's increasingly affluent middle-class, while government reforms, such as greater rights for migrant workers, should also increase consumer buying power.
Greater domestic demand could also have a positive impact on the technology sector. There are already more than 500 million internet users in China, yet web usage is under-penetrated relative to the developed world.
Online consumption is gaining traction, though, and this could attract the attention of Westerners when Alibaba lists on the New York Stock Exchange – a float that is thought likely to happen in September. Expected to be valued at $140bn-$160bn (£82bn-£94bn), Alibaba is a very profitable online commerce company, similar to Amazon and eBay, but still virtually unknown in the West. This is exactly the catalyst that could spark interest in Chinese shares once more.
Mr Nicholls thinks the Chinese stock market has been held back in recent years by wider economic concerns, which I tend to agree with. First, GDP, or economic growth, is slowing, but there are bright spots such as the consumption story.
Second, the banking system has been a worry – something the Chinese bears like to shout about. Mr Nicholls admits that Chinese banks will see more defaults, while non-performing loans (ones in default or close to being in default) are still being reported at a ridiculously low level. However, for a financial crisis to kick in, liquidity (or lending) would need to dry up. Given that China's largest banks are state-owned, this is unlikely to be a problem.
Third, in the property market prices have started to fall, yet incomes have been rising, suggesting affordability hasn't been affected. Furthermore, consumers aren't weighed down by significant amounts of debt at present. As a true contrarian, Mr Nicholls has been adding to Chinese property names, some of which are on an 80 per cent discount to their net asset value.
Overall, Mr Nicholls remains upbeat in his outlook for China. Generally speaking, Chinese companies are delivering strong earnings growth, yet share prices are being held back by wider economic concerns. It is difficult to know what the catalyst to change this will be, but I expect that a successful listing of a company such as Alibaba will improve sentiment.
At the time of writing, the Fidelity trust is trading on a discount of 11 per cent and gearing stands at 22 per cent, representing Mr Nicholls' confidence in the market. Fidelity also operates an active share buyback policy. If you are positive on China, then this trust looks like a bargain to me.
Mark Dampier is head of research at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For details about the funds included in this column, visit www.hl.co.uk
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