RCM fund managers re-assess China
Despite a drop in fund inflows in the early part of 2011, the Asian investment story is still very much intact. Large institutions, with good governance structures, are now re-thinking their exposure to China to include specialist mandates in their portfolios. “We are working together with a large international group that is offering implemented management. Looking through the emerging markets strategies we concluded that plain vanilla products are not enough to cover China,” Most indices or funds currently available only cover “what the market thinks means China”, Konyn pointed out and added that in most Asia-wide investments China is heavily underweight. “If the currency was freely convertible it would be 10% of the portfolio which would be a three-fold increase,” Konyn points out for his own company’s fund.
With the offshoring of RMB portfolios and Hong Kong’s increasing role as a capital hub for China, there are clear signs of a change in China’s currency policy. Since year-end 2009, RMB deposits in Hong Kong have increased by 500% to RMB400bn ($60bn) in February 2011. Konyn expects more RMB-denominated bond funds to come to the market soon to absorb the pent-up demand. RCM itself is looking at developing RMB bond fund products. Konyn also sees the market being set up for RMB-denominated stocks despite implementation challenges.
The FX-component is one part of the problem but another is the division in the Chinese equity market: “The sectors represented in the H-share and the A-share market are very different,” Konyn explained, adding that the A-shares included more mid-size business including those covering infrastructure and with it the “emerging market theme”.
For RCM that means that even in specialist China mandates, it will have to hold some of the big names - “but we do not overweight them”, stressed Konyn: “If investors think that, for example, banks serve as a proxy to consumer demand growth then it will start to be a proxy.” However, RCM is rather looking for “cheaper and more robust companies” to substitute the big names which often have a huge downside risk, as the large number of investors mean the companies can easily get punished should they even underperform in one quarter.
“A significant development is that H and A-shares are now trading at par,” Konyn pointed out. Before, A-shares had traded at up to 60x multiples but “those days are probably gone”. Between 2003 and the financial crisis Asia was a sure winner as it had been virtually neglected by the markets before. But, now Asia “is no longer cheap”. So why invest? “Because you believe the world has changed,” says Konyn. Asia is liberating itself from the US Dollar, currencies are allowed to appreciate for the first time. Exports from the region are booming again after the crisis, but this time not only to developed but also to emerging markets. Apart from this, the Chinese economy is restructuring to grow the share of consumer-driven demand.
This story is still intact and will be for a long time. The outflow of around US$20bn from emerging market funds between December 2010 and February 2011 was just a glitch as developing markets were briefly perceived to be more attractive. But the money has already gone back to emerging markets, Konyn points out.
The large Asian and Middle Eastern sovereign wealth funds looking to China are searching for non-US-$ denominated investments. Large US and Canadian pension funds, as well as endowments, look to China to help them match their liabilities - but some investors go to Asia purely for the beta, Konyn noted.
He added that some large foundations and endowments already have offices in Beijing to be able to cover the market. And Konyn confirmed that there will be a “scramble for talent” should China really become a separate asset class. With the rise of Asian asset managers there might soon be a shortage of people able to analyse the markets.
And make no mistake, a thorough analysis is what these markets need. Not only to identify the best companies but also those with an ecological and social focus. Despite Asian investors not yet showing very much interest in ESG objectives, as Konyn noted, RCM has started scoring companies on those criteria.
Christine Chung, head of China Equities at RCM in Hong Kong, explained that the pressure to include socially and ecologically responsible policies comes more from within China: either via the government not signing off expansion plans from companies which failed to fulfil energy regulations, or via people buying dairy products from outside China because they do not trust domestic companies since a few food scandals hit the news.
As for worker rights and labour conditions Chung sees a fundamental change by way of regionalisation. “Large companies have re-located to the provinces because people did not want to travel that far any more for work,” she explained. “But now the companies find that people who are closer to their families are less willing to work overtime,” Chung noted.
This shortage in labour, as well as the Chinese government’s policy to increase domestic consumption, has led to wage inflation of around 15% this year, which is another disincentive to work too much overtime.
Of course the one-child-policy is not helping either to battle the labour shortage, but Chung reported that China is loosening the one-child-policy in certain cities and regions because of growing demographic pressure. “But the government is not announcing this to the world as it would be viewed as a 180-degree shift in the policy and this is not the message it wants to send,” Chung noted.