3 Hot Takes On The Chinese Market [TFC 101]
With the recent news coverage of Chinese regulators’ clampdown on big tech companies like Didi, Alibaba, Tencent and more, investors are naturally concerned about the outlook for Chinese companies and the Chinese market in general. Reggie joins in the discussion by offering his personal perspectives on the Chinese market. Find out if he is bullish or bearish about the Chinese market in TFC 101!
Contrary to popular belief, China is no longer the outsource factory of the world. In the past 5-10 years, it has established itself as a high tech nation with its own brands. Based on this narrative, investors should consider the possibility that China will continue to grow over the next 10-30 years.
However, it is not as simple as that. Reggie argues that while there may be growth, it will not be indiscriminate and it will not be consistently linear. His insight into the Chinese economy will help listeners gain a stronger understanding on how one should view the market. His take on US ADRs (American Depositary Receipts) may also surprise you. Ultimately, he believes the Chinese government has no incentive to shut down these companies. Not convinced? Listen to TFC 101 to find out why he says that.
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Reggie: Recently, many of you Coconuts have been asking me about my take on the Chinese stock market. Specifically, you’re pretty concerned about how the Chinese regulators seems to be targeting big tech: Didi, Alibaba, Tencent, Meituan… what have you? It all seems like they’re getting regulated or getting attacked under this idea of anti monopoly and it has shown in the stock prices. They have all tanked in some way or another.
Expand Full Transcript
Whether you have direct exposure to these tech companies or whether you buy ETFs (Exchange Traded Funds) of Chinese tech or whether you even buy the US ADR, it does not matter. It looks like all the prices have came down. So today I’m going to share with you my take on the Chinese stocks and I wanna first put it out there that I’m relatively bullish.
Good morning everyone! I welcome you to another day with The Financial Coconut. In our podcast, we will be debunking financial myths, discovering best financial practices and discussing financial strategies that fits our unique life. You get it, ultimately empowering us to create a life we love while managing our finances.
I’m your host, Reggie and today I will share with you my take and some pointers as to why I believe that the Chinese stock market is under appreciated and I am relatively bullish compared to a lot of other people out there today.
So why do I say I’m relatively bullish about Chinese stocks compared to other people? You can go and check out Episode 11 of Chills with TFC, where we spent time with Tai Zhi from AutoWealth. They actually started out as a broadly diversified robo-advisor essentially, so a lot of stocks, a lot of bonds, board based… don’t try to beat the market, don’t try to get alpha, just be invested for the long term. Of course, I think these days, they have changed up a little bit. They have released some thematic strategies, focused on different stuff.
But when I first talked to him and asked him, “Hey, China is where a lot of the growth is, or at least that’s what a lot of people are saying. Why aren’t you buying more exposure in China? Why aren’t you allocating more money in Chinese ETFs or Chinese stocks and what have you?” His reply to me was that the average holdings out there is about 7% exposure to China, even if you buy MSCI World, globally diversified… Most people are hovering around 7, at least sub 10. So to him, everybody’s doing that. There must be a reason why.
Whether is it the financial ecosystem, whether it’s the political stability, geopolitics, what have you… and because the broader investment community have come to their consensus that broadly diversified around the world means about 7% of China’s exposure, he’s okay with it because that is their strategy. Of course, now they have launched other stuff, check them out, check the episode, go ahead and listen and get a better idea of what he has to share about being broadly diversified. Pretty interesting.
But of course there are other robo-advisors or other people in the retail investment world whether is it your bloggers and everyone else, they have a different set of views, your professionals all the way to your retail. So different people have different viewpoints and my viewpoint is closer to having more exposure to China and this is not because I want to be a contrarian and I definitely have to be different from everyone else. Although I’m quite different, I’m quite special, I get it.
But the idea is a lot of the standard talking points, I do subscribe to it. Whether is it growth of the middle class in China, more consumption in China because they have a lot of savings, they can unlock more spending, or whether is it China’s expansion around the region or even further… One Belt, One Road and what have you. So there are a lot of discussions on all these different pointers that I do not want to repeat here today.
But the first narrative that I think you need to subscribe to is that China is no longer just the outsource factory of the world. They have taken the technology and created a lot of their own brands. They have even created their own space station. Yes, International Space Station don’t want to play with China. So what China do? China say “okay, then we build our own space station.” They have already launched all these things up. They have their own GPS systems. Huawei technology has revolutionized a lot of communications and hardware stuff.
There are a lot of things that have been ongoing for the longest time ever, at least for the past 5 – 10 years. Whether or not you want to come from the moral high ground to say “oh, they stole from other people. They don’t respect IP (Intellectual Property)”, that one I’m not interested to discuss today. I don’t care how they have done it. But the recognition is they are a high tech nation at this point in time with their own brands and abilities to create their own stuff. They even have sorted out the complex supply chain from raw to final product within their own space.
So they have done a great job in getting to where they are. That being said, I do recognize that they have their own set of problems. Whether is it inequality or whether is it the phantom housing bubble or whether is it geopolitics… all that jazz is true. Yes, you have a point there, but I think what a lot of people don’t understand is that not all factors are the same. There are a lot of factors that can affect one thing, but you cannot weigh every factor equally.
So I would say that in the next few years or in the mid term, China will go through a little bit of wobble here and there. But as long as they don’t crash internally, that means they don’t go into a revolution, CCP (Chinese Communist Party) is still in control and the people are relatively happy and okay with that, then hey, China is going to grow in a much, much bigger fashion over the next course of 10, 20, 30 years.
Which brings me to my first take on the Chinese stocks and that is you will see growth in it, but it will not be indiscriminate and it will not be consistently linear. We have to first recognize a few layers. The first layer is the economy, the Chinese economy. The next layer is the companies, the companies that operate within the Chinese economy and the third layer are the stocks, the stocks of the companies in itself. So there are three different layers: the economy, the companies, and the stocks. Because I’m a fundamental investor, I believe that if the businesses do well, over time the stock prices will reflect itself. That’s my base idea.
So why do I want to specifically point out the… you will see growth, but it will not be indiscriminate because a lot of you guys emailed me, DMed me, Telegram messaged me, what have you and asked me very fringe stuff. “What do you think of the lithium stocks? What do you think of solar energy? What about this manufacturer?” and all that stuff and I’m like whoa, whoa, whoa guys, I don’t know everything. That’s the first thing, but also you need to recognize that China is not in the early stage of growth anymore.
So it is not like you stone throw anything, it’s going to grow. It’s not the case. It has already reached a phase of growth where certain sectors are matured. Certain sectors may shrink because they have to outsource some of these stuff. It may leave the country or there’ll be new ways to produce and all that jazz and certain sectors can continue to grow. China has already specifically point out two main strategies. One is the One Belt One Road initiative, the other one is the consumer growth. Of course there’s the Asian infrastructure bank… but they are tied to the One Belt One Road initiative. Essentially, they are trying to bring their production technology, they’re trying to bring their trade, their transport and manufacturing out of China to other areas, other cities to promote trade and also outsource the manufacturing because manufacturing in itself always looks for cheaper places. So that’s the complicated part and I don’t really want to comment because I don’t know enough about that.
The other part is very interesting is China’s active promotion of consumption. They’re trying to get the citizens to consume more because the Chinese have a lot of savings. To all your Chinese listening, I think you have a lot of savings also… The idea is the Chinese government is actively trying to promote consumption and the consumers themselves, the middle class is growing quite seriously. A lot of the big banks, whether is it Morgan Stanley, JP Morgan, Barclays and what have you, they are all expecting consumption to double or close to double in the next 10 years. So consumer spending is going to be pretty serious and yeah, it’s going to be one of the biggest consumer market ever. If the market that the companies are playing in is growing, they tend to do a little bit better because it’s a growing market. Everybody can be in a party and have fun.
So what I’m trying to tell you is that yes, you want to have exposure to China, you want to invest in China… by the way, it’s not recommendation. I’m just educating and sharing my perspectives. Very important, must put it out there. If you want to invest in China, maybe you want to do the broadly diversified strategy where you just get more exposure in China or if you really want to focus on China, you need to recognize that it’s not a stone throw, everything in China is “good”.
Sector specific, you need to understand… but my base case is consumers are okay. Consumer brands and consumer focused businesses are probably going to do pretty well. I think Alvin from Dr Wealth came over on Episode 27 of Chills with TFC. I love how we do so many episodes that I can quote everybody. Alvin also doubled down on this idea of consumer. We did a lot of discussion about the future of China and what he thinks about the Chinese consumer. So you can check that episode out.
But the point is growth is not going to be the same everywhere and you want to only be in the spaces that you are very certain and focused upon. Whether is it consumer brands, consumer financials, or even tech companies that are focused on the consumers like Didi, Meituan, Alibaba, Tencent and all that, they are all going to grow, although now it’s a little bit wonky. It seems like they’re going through some re-hustling, re-negotiation with the authorities. But they’re all consumer facing and as long as they’re consumer facing, they stay in tech, the consumers want them, then they will grow alongside.
It’s not going to change their fundamentals. It may change their short term stock prices because the market is concerned about what is going to happen, but the fundamentals stay strong and you can see from the financials, they come out to be very beautiful.
But also precisely because of the uncertainty, the market about the Chinese stocks, you realize that their growth in terms of stock prices will not be linear and consistent. It will be pretty choppy and pretty volatile for the short period of time or even an extended period of time. You don’t know, but the fundamentals are very strong and consumer growth is going to lead a lot of these companies, which brings me to point number two and that is if you want to get these stocks, these Chinese stocks and they are listed in Hong Kong, or they have some sort of A shares in Shenzhen, Shanghai, or what have you, maybe you want to consider to just get them compared to their US ADR. I’ll share with you a little bit more after a word from our sponsor.
For all of you that don’t know what is a US ADR, essentially American Depositary Receipt… in other words, when you buy a share of a Chinese company, whether is it Alibaba, Meituan, Didi… they are all registered in the US. Actually, you’re just buying a mirror of that share. What does that mean? That means the thing they actually buying does not own the entity in itself. You can go and read up a little bit more about this.
Essentially the Chinese companies, because of regulation, cannot list abroad. So what they do is they go and get a shell company in some place, somewhere, usually tax-free zones, they will set up a company there and then they list the company on the US stock market and reflect it as a vehicle to own the Chinese companies. In other words, you are buying a piece of paper that say okay, you have a reflection of the Chinese company. It does not actually own the Chinese company. This is an important factor. If you didn’t know yet, you can go and read up a little bit more about it: US ADRs..
Why do I think ADRs in the first place existed? Actually, if you look at which companies use ADRs to list in the US, mostly are tech companies. So in the early days, even till today, it was the tech companies that decide to list in the US. There is a very simple and easy understanding as to why, because the US stock market has always paid more for tech companies. The US investors and the US stock market in itself has a comfort of paying a premium for tech companies. So it’s not just Chinese companies, a lot of global tech companies, whether is it your Spotify or Shopify and whatever ‘fy’, they all list in the US for the additional premium.
That’s something you need to recognize. It’s not the Chinese companies really want to list in the US and what have you, it’s just… who is willing to pay more? Because traditionally, the US stock market is willing to pay a higher premium for tech companies, Alibaba was the first one from China to list there and then subsequently many other tech companies followed suit to list in the US for the additional premium.
So then you will ask me, why do I think that you should try to buy in Hong Kong or buy in Shanghai and Shenzhen? It is not because I’m worried that the Chinese will do a foul play and do some sort of fire sale or reverse take over and what have you. Honestly, if the government wants to do that or force some of the companies to do that, it’s going to make it very ugly for them and a lot of the other guys will not want to play with them anymore.
It is not a tyrant… just want to do everything on their own. The reality is there are a lot of systems, a lot of understandings that are built in. If you try to mess around, it’s going to affect everyone and other people will hate you for it and they’re not going to play with you. So the Chinese government will have no incentive to do that and the Chinese companies do not want do that also unless they’re out to scam. I know there are a lot of those things… we will not talk about it here, but it’s not unique to the Chinese companies. There are also a lot of companies doing all sorts of weird stuff in the stock market, yes.
But the idea is as the global investment community, especially the guys in the US are selling down their Chinese stocks because of uncertainty and they are not sure what’s going to happen, a lot of the Chinese investors are also becoming more matured and learning to appreciate tech companies and their growth. In the past, it is not a thing, but now I think a lot of the Chinese investors, they understand how tech companies play the game. So if there is a reduced premium of investing in the US, more and more tech companies may just list in Hong Kong and Shanghai in itself and they may be priced fairer because the locals actually understand them now.
That’s an interesting take, if you think about it. So what I’m saying is if you have a double listing, your listing in another country, the price movement of their listing in a particular country is going to affect the price movement of every other listing. For example, JD.com. It’s a Chinese logistics, e-commerce giant… I would say they are giant. So they are listed in the US and they’re also listed in Hong Kong. They can release all sorts of information and they can be performing very well…. and their share price move up. Good.
But any time there’s some sort of discrepancy between US and China, some sort of fight and debate or what have you, their share price come down and it becomes extremely volatile for investors. They don’t really like it. Who wants this kind of news to affect businesses and all that? And what is interesting is JD has limited business… in fact, probably no business at all in the US. Most of their businesses are in China itself. So if that’s the case, why do I want to have the kind of exposure to that kind of US uncertainty in terms of how the investors in the US price me as a company?
If I have no business operations in the US and the US investors or the global investors are not pricing me fairly in terms of my business, then why do I need to list there as more and more of my local people understand me better? So in that case, you may see companies start listing in China alone, directly Hong Kong, Shanghai, Shenzhen, what have you. They have a lot of stock exchanges. Or you may see a lot of these US ADRs being pulled out. Don’t be surprised if that happens and don’t be surprised when one or two of them pull out of the US. The share price will all come down alongside everyone else. They will all come down.
I am not a short-term investor, but these have a few complications. One, it adds uncertainty and adds unnecessary volatility to your portfolio, that’s one thing. Number two, it also creates uncertainty in a sense of how are they going to exit? While I think that it’s not going to be a foul play, it’s not going to be like they just pull out and what have you, but this complexity is also not very fun. You don’t want to be part of this uncertainty as to how are they going to exit the US market if they so happen to.
Which is why I think if they have options to just buy from Hong Kong or Shanghai, you should do it. This is also the result of the opening up of the financial markets in China and the increase of brokerage access. So good stuff. You have your choices and you can decide, but I think there’s some value in it. Less headache, less tao tia (headache), less worry. To me, that is good investor habits.
Which brings me to point number three and I think it’s a very important point that you need to understand about the Chinese stocks and that is the Chinese government has no incentive to kill its businesses, but it has a lot of incentive to challenge monopolies. This can be a very long and complex discussion and I don’t want to spend all the time to do all this. I’m going to recommend you a video on YouTube. There are a lot of videos on YouTube and I have gone through almost all of them.
There’s one specific video that I think you should watch and that is from New Economic Thinking titled “How China’s Economy Actually Works” shared with you by Professor Chenggang Xu. I think you should go and watch that particular video because it gives you a much clearer view about how China’s economy works and will then establish why the Chinese government has no incentive to kill the big businesses, but have incentive to regulate monopoly. Briefly put, the Chinese economy is built in a way where it is centrally managed. This is still true, it is centrally managed, but it is managed in a way where we are competing with each other.
Let’s say I stay in block 123 of Tampines Street 2. I don’t know, is there such a street? But anyway, if I stay in block 123… I’m the governor, I’m the village head of block 123 to block 126. You are the village head of block 127 to 130. We are competing with each other. Whoever can manage these few blocks better, we will move up to manage… let’s say the whole Tampines East region. Tampines has five regions. Whoever that manages their region the best amongst these five regional heads will then move up to manage Tampines new town. Let’s say something like that. Okay…. so of course Tampines a bit small to have any form of economic progress. We have five blocks of people, but the idea is the same.
In China, it’s separated into villages, towns, provinces and all the way up to the central government and they compete with each other in such a fashion. That is how it is being built as an economic system and as a political system. To me, that is one of the reason I may be a little bit on the fringy side when I say this… to me this is one of the reasons why a lot of the big tech firms are getting attacked now and not in the past. One, of course they are a lot bigger today. They are very big monopolies. The other is because the political landscape is changing. You’re seeing a lot of politicians that are not traditionally from the main business areas like Jiangsu, Shanghai and what have you. A lot of politicians coming up the ladder are coming from Xi’an, coming from Hunan and Henan and those are the places where Mao and Xi has political power in.
So when that happens, you see that they want to come in to regulate the space a little bit. They want to challenge big tech. They want to challenge the big businesses. I totally get that. There’s a political incentive to regulate these guys, or even break them up so that there’s more competition and other states can come in and new startups from other places can compete and all.
But the Chinese government also wants to use these big techs to compete with the world. So it’s an interesting relationship. Every time Xi goes and visit other countries for trade relationships and what not, he brings along Ma Huateng and Ma Yun and all the big tech guys, whether is it your Alibaba, Tencent, JD, Meituan what have you. A lot of these big tech guys, they follow for this kinds of trade discussions.
That is a very interesting relationship and is unique to China, but for Singaporeans, you kind of understand. You have a better understanding compared to how the US people are looking at this. You look at Singapore’s economy. It is also pretty centrally planned. You have very very big companies like Capitaland, we have very big companies like Ascendas which is also Capitaland, like Mapletree… kind of together.
A lot of the big companies are centrally managed, centrally controlled, not in the sense that… Singapore is a bit different, not in the sense that, you have one politician sit there and say “you can do this, you cannot do that”. No, but the incentive structures are built pretty centrally arranged and all that. I don’t want to get POFMA for this, but as Singaporeans, you already see how it can actually happen, where there are a lot of big companies that are like GLCs (Government-Linked Companies). They themselves operate in the incentive system of the government, also with the incentive system of the market.
So that is where the Chinese companies are heading towards in my view. You ask yourself: can this be successful? Possibly yes, because there’s already a model out there. It’s not like fringe and crazy like what the US people are putting it. You look at Singapore, you already see it happening. With that idea, as long as the fundamentals of the company stays intact and they’re not politically too crazy and against the Chinese government, then they should be able to do pretty fine over the period of time.
But I will caution you… investing with political ideas solely. Definitely look at the business fundamentals and get a deeper understanding of what you’re investing in, but I’m putting it out there so that you don’t be too concerned about “oh, the Chinese government want to kill the companies, is it?” No, I don’t think they have real incentive to kill the companies.
So with that, I’m going to sum up today with the three pointers on the Chinese stocks or three hot takes… how you want to put it. Number one is you will see growth in the Chinese stocks, but you will not be indiscriminate, it will not be non-linear. It’ll be volatile in the short period of time and you should see certain sectors do better, especially the consumer facing stuff. Not all sectors are the same. Some sectors will be declining. This is something you need to recognize. Don’t just anyhow buy. You can do broad based or if you want to pick and be specific, then recognize that it is not a linear headwind. It’s not a monolithic thing. There’s certain sectors that will do better.
Number two is if you have access to Hong Kong or Shanghai stocks and they are the same company as the ones that you buy from the US ADRs, then maybe you want to just take the Hong Kong or Shanghai tickers in itself. Because while I don’t think there’s going to be foul play, it’s going to be a little bit complicated. It get messy. Why do you want to subscribe yourself to all of these things? Like I put it, it may be a case where more and more of the Chinese companies realize that they are not appreciated in the US market anymore and they would just list in Hong Kong or they may delist their ADRs in the US. So yes, why not just buy the stuff directly from China?
Number three is the Chinese government have no real initiative to kill its big businesses. It wants its big businesses to take over the world or take on the world, but they have a very big incentive to reduce monopolies and promote competition because this is how the economy and how the political system is built. So go and check out the video from New Economic Thinking “How China’s Economy Actually Works” on YouTube. So have fun, take care. I hope you learnt something today. See ya.
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So yeah, I hope you get peace or some sort of idea to why the Chinese stock market… I think is pretty, pretty interesting going forward. I do have a little bit more exposure. While I won’t tell you how much exposure I have or which specific exposure, about 20% of my portfolio are Chinese stocks and I’m also actively shifting the portfolio over to Hong Kong and Shanghai directly, if I can.
That’s my base take. I hope you learnt something useful and like I said, not all factors are the same. I know you may be a little bit more emotional about certain things at times. I am also, but yeah. Recognize that yes, a lot of factors can affect this thing, it is a probabilistic idea. Not all factors are the same, okay?
Later this week, we’re going to get another guest on Chills and that will be me, myself. I’m going to be spending time with Andrew and we’re going to have a good time just chatting and having fun. At the same time, share with you my journey so far and how are we going to pass it over to Andrew. So just stay tuned and have some fun this Thursday. We’re all warming up. I know it’s lockdown and what have you, so take care. I’ll see you soon. Bye guys.
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