Chinese Crisis is a Buying Opportunity

China is heading for a credit crisis, but let the macro problems put you off investing in emerging markets and you risk missing out on growth and income

Emma Wall 27 February, 2014 | 7:28AM
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China is entering a credit crisis – but this shouldn’t dissuade investors from taking a long-term bet on the stock market say the professionals.

Taking a very long-term view, current valuations mean I am bullish

Edward Lam, manager of the Somerset Emerging Market Dividend Growth fund, rated Bronze by Morningstar analysts, said that the next two years are going to be tough for China – but on a 10 year view the opportunities were rife.

“There is a credible case that China is going to enter a credit crunch making it a tricky place for the next couple of years,” he said. “But investors taking a very long term view, of a decade or more, current valuations mean I am bullish.”

Emerging markets have been in a bear market since the global recession, meaning prices are now depressed and make a worthy entry point. Not only to stock markets look historically cheap, but compared to developed markets which have rallied significantly over the past couple of years, China is relatively cheap too.

“The worst is behind us and emerging markets have underperformed enough that they look attractive compared to developed indices,” said Lam.

“The emerging market composite index has actually underperformed the S&P 500 by 60% based on three year rolling values. This is a good point of entry.”

While it is almost impossible to call a market, for investors who want long term returns now could be the time to jump in – and if markets fall further have the nerve to buy more.

Mark Dampier of Hargreaves Lansdown said that investors must be willing to take contrarian bets if they want outperformance.

“The worst time I have known as an investor was the crash of 1987. It felt like the world was falling apart. But now if you look at a graph of the FTSE 100 that period looks like a tiny blip,” he said.

“We have spent the last five years obsessing about the macro reasons not to invest in China, but we are in danger of missing out on a fantastic rally if you don’t take the plunge.”

Dampier said that investors should not be scared of markets falling after they have invested – in many cases this is simply a signal to buy more.

“Over the long term you will look back and forget the 10% drop if you have made back 100%,” he said.

The Chinese credit crisis will have impact in the short term however – and not just on the Chinese stock market. The recent bounce in the gold price is in part due to wealthy Chinese buying up bullion in order to make their wealth mobile – and take it out of the country. This “capital fleeing” is a bad sign.

China has also started to devalue the renminbi, which could negatively impact the commodities market. China paying less for iron ore will hit Australia and Brazil – although Brazil will feel it hardest. Australia’s economy is more diverse and Brazil has further to transport iron ore, making costs higher.

The root of the Chinese credit crisis – like our Western one – is in the banking system. Several factors have been the undoing of Chinese banks – the relaxing of guidelines that controlled deposit and lending rates is one, meaning banks have pushed themselves to offer more competitive rates and as a result squeezed their own margins.

Concerns about the Chinese banking system being undercapitalised are founded, said Lam, and as a result he is looking elsewhere for financials exposure – preferring Hungarian banks. Hungary has undergone reform in both the public and private sectors in recent years and the government has turned the current account deficit into a current account surplus.

But these factors do not dampen the long term appeal of China – and foreign investors are beginning to realise as much.

Foreign investment into China grew 16.1% year on year in January to $10.76 billion.

Philip Ehrmann, manager of the Bronze-rated Jupiter China Fund, says critics underestimate the reforming zeal of the new Chinese administration.

The new Chinese administration has made quite clear that it is engaging in meaningful reform to manage the excesses, intended or otherwise, that have been building up in the economy,” he said.

“We believe progress on the required reforms will be steady but uneven and may lead to further market volatility in the coming months. Any stock market weakness could offer, in our view, a good opportunity to pick up quality companies at attractive prices. At some stage, undoubtedly, political reform will have to match the progress being made on the economy but the Chinese population is likely to be less demanding on this front as long as incomes continue to grow and it feels it is sharing in the overall prosperity brought about by the economic boom of the last five years.”

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
MI Somerset Emerg Mkts Div Gr A Inc119.00 GBP-1.51Rating

About Author

Emma Wall  is former Senior International Editor for Morningstar