November 21st, 2011
By David Zeiler, Associate Editor, Money Morning
Despite the recent downturn in China's stock market, investors need to remain focused on the profit-generating long-term growth potential of the Asian powerhouse.
The Shanghai Composite Index is down about 10% on the year, compared to a drop of less than 1% year-to-date for the Standard & Poor's 500 Index. Follow up:
Anthony Bolton, one of the United Kingdom's most respected fund managers, called the end of the third quarter "a brutal period for Asian markets - as difficult a time to be running money as I can remember."
Bolton's U.K.-based Fidelity China Special Solutions Fund dropped 28.9% in six months.
A recent bounce up from lows reached in October has some experts wondering if China's stock markets hit a bottom or if they might slip still lower, but in any case investors mustn't abandon China, said Money Morning Chief Investment Strategist Keith Fitz-Gerald.
"Long-term, you can't afford to be without Chinese stocks," Fitz-Gerald said. "Timing is not what you should be focused on. You need to be focused on growth, and who has the money."
Fitz-Gerald pointed to the debt-crippled economies of the United States and Europe.
"That's not where the money is," he said. "It's in the emerging economies like China."
Follow up:Chinese exchange-traded funds (ETFs), a popular way for U.S. investors to dip their toes into the Chinese stock markets, are off an average of more than 21% for 2011. That's a big shift from 2010, when the average China fund gained 13%, or 2009, when the average gain was an eye-popping 64.5%.
Several factors have combined to rock the Chinese stock market this year. The Chinese government has attacked inflation by raising interest rates five times over the past 12 months, but at the cost of slowing economic growth.
Even so, the Chinese central bank has projected the country's gross domestic product (GDP) will grow at a 9.2% rate in 2011 and an 8.5% clip next year.
That's still more than triple the growth of the U.S. economy. The Philadelphia Fed's quarterly survey yesterday (Monday) lowered its projected U.S. GDP for 2012 to 2.4%.
China's exports have slumped as a result of the sagging U.S. economy as well as the turmoil generated by the Eurozone debt crisis. The Eurozone is China's biggest customer.
In addition to hiking interest rates, China's government also has increased the reserve requirements for its banks, which reduced the amount of money available for lending, restricting capital.
"The Chinese government wants to prevent excessive speculation," Fitz-Gerald said. "So they're keeping a lid on interest rates and doing what they can to curb the inappropriate use of capital."
The Chinese stock market's recent stumbles, combined with questionable accounting practices among some "reverse merger" companies, which buy the shares of defunct public companies in order to use their tickers, has created the perception among some investors that China is just too risky right now.
Not so, says Fitz-Gerald.
"When everyone else has had the stink scared out of them, that's when you go in," he said.
Fitz-Gerald is not alone.
Fidelity's Bolton, despite the damage to his fund, also sees China as a good investment over the long haul.
"It is still under-owned by investors, but people see China is not a house of cards that is going to collapse," Bolton said. "When those views fail to materialize, you will see fund flows into China improve."
And Goldman Sachs Group Inc. (NYSE: GS) said it expects looser credit and an attempt by the Chinese government to help struggling companies to boost stocks there eventually.
"We are recommending a long position in Chinese equities," Goldman said in a research note.
Still, investors need to tread carefully, Fitz-Gerald said, as there is "plenty of trash among the treasure."
He advises investors to stay clear of the reverse merger stocks as well as small caps.
Instead, Fitz-Gerald says investors should stick with big sectors such as energy and consumer goods.
Apart from Chinese stocks and ETFs, Fitz-Gerald recommends "glocal" companies like McDonald's Corp. (NYSE: MCD) and ABB Ltd. (NYSE ADR:ABB) that have both a local presence as well as a global reach.
"I have no doubt whatsoever that the Chinese markets will out-accelerate the U.S. and Eurozone markets over the long term," Fitz-Gerald said. "The Global 100 are all going to China. That's where the growth is."
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