Matthews Asia’s Robert Horrocks sees reasons for optimism on China

Robert Horrocks, chief investment officer at Matthews Asia, says China’s perceived problems, such as excessive state control and lack of innovation, are being addressed.

At the start of 2012, amid a climate of much pessimism, I wrote about the optimism I felt over Asia. Markets are comparatively a bit more expensive now and some sectors (consumer non-cyclicals and health care) are somewhat expensive.

But, overall, Asia ex-Japan’s earnings are still trading at a valuation discount of 26% to the U.S. and 10% to Europe. In addition, current valuations are still at the low end of the long-term historic range. My optimism remains and springs from the fact that I don’t recognize the picture of China that pundits are so quick to paint. It’s easy to focus on China’s problems but the Chinese are focusing on the solutions. In my mind, China is a source of change, vibrancy and evolution. Considering China’s 10x forward 12 months earnings, a 2.5% dividend yield and nominal GDP growth of approximately 10% as of mid-December, I am happy to hold this contrarian view.

The list of complaints against China is long: there is a credit bubble and over-investment; China’s economy is state-controlled; it never innovates; its banks are inefficient; informal financing is unregulated; wages are rising; companies have poor governance and you can’t trust the numbers. But for all these criticisms, I have experienced a China that has evolved too much, due to the actions of both the government and individuals, to allow itself to stand still and accept mediocrity.

Government makes way for entrepreneurs

China’s fundamental story of the past few decades has been of government making room for the private sector to flourish. As a student in Beijing in the 1980s, I saw numerous factories all churning out the same goods-Mao suits, Mao hats and police uniforms. The lack of competition or profit motive was obvious. But I also remember the kiosk at my university, run by an elderly woman who sold beer and cigarettes.

For a few dollars, you could buy her entire stock of mouldy beer. In a state-run economy with no personal incentives, nothing would ever change. But even back then, this vendor, who was old enough to remember what capitalism used to be like, was not going to let the opportunity of thirsty British students slip by. Progressively, she stocked less mouldy beers until she was selling Singaporean, Japanese, American and Irish household brands by the end of the academic year. To this day, I recall this story to remind me of how quickly things can change. I also remember that selling to foreigners was a means to an end and not the end in itself. Exports were not the goal of China’s economic growth, they were the means by which China would re-learn capitalism.

 

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