Insight on Mandatory Provident Fund – July 2018
The market came under selling pressure in June as investor risk appetite waned. We saw two major sources of volatility as we navigated an increasingly turbulent market in the second quarter – the US-China trade war and China’s deleveraging bias. China has threatened to retaliate by imposing tariffs of “the same strength” on US goods after US President Trump approved the final list of goods to be included in the application of a 25% tariff on $50 billion worth of Chinese imports in mid-June. Meanwhile, corporate bond defaults in China have clouded investor sentiment in the onshore market. The number of bond default cases has been ratcheting up since the start of the year – 16 cases from eight issuers worth a combined RMB14 billion were reported year-to-date – as Chinese authorities implemented deleveraging and de-risking measures to weed out poor quality companies.
However, corporate fundamentals in China continue to be strong, and encouraging signs often tend to be left unnoticed during periods of pessimism. In China, macro data reflected a sanguine economy this year, with revenue and earnings growth remaining strong, profitability continuing to improve, capital expenditure rebounding, and debt levels staying largely stable. China’s corporate earnings growth has stayed on track against this favorable backdrop – expected earnings growth for offshore China equities in 2018 was revised upwards to 16%1 (vs. 14.9% in 1Q). The healthcare and education sectors, which are less sensitive to external macro risks such as the China-US trade war, have benefitted from favourable government policies, while Chinese banks continue to enjoy stable profitability despite the near-term asset quality stress.
In light of the market uncertainties, we maintain a conservative view towards the Greater China market and has raised the MPF portfolio’s cash level gradually by selling some cyclical sectors, such as property and raw materials, recently. Meanwhile, we have switched to adding more domestic demand-driven sectors, such as food and beverage, eCommerce and education, as these sectors should perform more resiliently amid a potential economic downturn. Despite the trade war concerns, we have selectively added back some technology companies as recent data suggested that smartphone sales might have bottomed out in China, and the sector’s valuation looked more attractive after the recent consolidation triggered by concerns about the trade war.
Looking ahead, while we believe China’s deleveraging policies will burden GDP growth, we believe that China’s policy makers will turn more flexible by constantly reviewing and fine-tuning policies so as to avoid a sharp deceleration in economic growth. We continue to believe that China and the US will resolve the trade dispute though negotiations eventually, but fear and uncertainty in financial markets will linger, and investors may feel the pinch of the trade war in the short term. The trade war will get worse before it gets better because of Trump’s tendency to strain relationships to the limit. While volatility may persist in the market for an extended period of time as the US-China trade war drags on, the fund manager will look to gradually accumulate high quality stocks with good growth prospects when value opportunities emerge.
1. Source: JP Morgan research, 23 June 2018
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The views expressed are the views of Value Partners Limited only and are subject to change based on market and other conditions. The information provided does not constitute investment advice and it should not be relied on as such. All material has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. This material contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected.