On February 16 we will bid goodbye to the Fire Rooster and welcome a new Chinese year to the fore. 2018 will bring the dawn of the Earth Dog, ending two years of fire rule (in the Rooster and Monkey) which brought about unpredictable and impulsive conditions.
Chinese astrologists predict the Year of the Dog will bring with it stabilised conditions, with the earth dog sharing many of the characteristics of its real-world counterpart. Expect loyalty, justice and integrity to come into focus as the forces of the Earth Dog come to bear.
But what does all this mean for business, according to Jing Ning, portfolio manager of the Fidelity China Fund, it’s a year of wins and emerging ideas.
Jing Ning believes 2018 could be the year when the much-maligned Hong Kong listed large-cap old economy stocks surge in performance.
“We are entering the second year of robust and sustainable earnings, which suggests these companies are being better run and the government’s policies to reduce excess capacity are having an impact. We are seeing many industries, such as coal, steel and cement going through different stages of decapacity, which is improving the supply/demand dynamics of their respective products.
“These industries are also amongst the biggest culprits for non-performing loans on bank’s balance sheets, so their improvement alongside stricter loan requirements are helping to improve non-performing loan formation. When looking at 2017 share price returns, all returns from these companies were driven by earnings growth – these stocks generally did not enjoy a re-rating.
“Structurally, it is becoming clear that the biggest companies in each sector have the strongest balance sheets, and they are using this strength to squeeze out smaller players, thus gaining market share, generating positive free cash flow, and paying a dividend. This improving market position could drive a re-rating.
When it comes to growth stocks Jing Ning suggests A share blue chip stocks may be falling out of favour.
“Over the last 18 months, A-share market sentiment has favoured high quality blue-chip companies as they offer stable growth and have the potential support of foreign inflows on the back of future A-share inclusion in market indices. These companies did offer value, but now I believe sentiment may have shifted too far. In the meantime, high growth stocks have lagged during this hunt for high quality growth and now offer relative value. It is important to find those companies which can deliver on their promise, but as the A-share market becomes more institutional and a destination for foreign investment, we could see a greater focus on relative value, which would put this segment of the market in a favourable position.
If you’re looking for a win, Jing Ning says avoid tier 3 players as they come under pressure.
“While they may offer strong potential gains should they capture market share, the chances of this have diminished as the largest companies in each industry have been able to establish even deeper moats over the last few years. Big banks have solid capital positions vs. lower tier banks; large-cap industrials have deeper pockets and better contacts to meet increasing regulations (e.g. anti-pollution measures); Tencent and Alibaba have almost impenetrable online platforms. However, you do not have to be large-cap to succeed but being the dominant player in their industry is key.”