Investing in the land of opportunity as tensions tighten

Throughout our Top-Rated Funds series, Australia's leading fund managers have overwhelmingly pointed to inflation as the biggest risk to markets over the short and long term. 

But WaveStone Capital's Catherine Allfrey believes there is another issue that investors are perhaps sweeping under the rug; China. And more specifically, whether investors can continue to benefit from export opportunities to this growing nation, with bilateral tensions ever the more fraught between Beijing and Canberra. 

"China's caused a lot of pain on the trade side, particularly to the Australian economy, but it also is the land of opportunity, right?" Allfrey says. 

She points to the last 12 to 18 months for once local darlings a2 Milk (ASX:A2M) and Treasury Wine (ASX:TWE) as an example, both of which have seen their share prices plunge dramatically since the beginning of 2020; by 60% and 26%, respectively. 

But now, with new census data out revealing a massively ageing demographic in China, new opportunities, particularly for our healthcare companies, could materialise, Allfrey says. 

In this interview, she takes you through the debate above and also shares some of the lessons she has learnt throughout her career. Plus, Allfrey also names one stock that she will be backing over the longer term. 

Note: You can watch the video by clicking the player or read an edited transcript below. Enjoy!

Edited Transcript

Ally Selby: Hello, and welcome to Livewire's Top-Rated Funds Series. I'm your host, Ally Selby, and today I'm joined by Catherine Allfrey from WaveStone Capital. Thank you so much for joining me today.

First off, I'd love to know what actually motivates you as an individual.

Catherine Allfrey: As an individual, wow, that's a big one. I would say I love to learn. That's the thing. So I love to come to work, I love to meet people. I get energy from interacting with people and I always want to keep learning. So that's always been my philosophy in life.

Ally Selby: Have there been any mentors that have been really pivotal in your career so far?

Catherine Allfrey: I had a few actually. I had a loud American that I first worked for when I first went into stockbroking and he was very patient and taught me a lot in terms of forensically looking through accounts, so I learnt from him. And then also Greg Perry at Colonial First State, as well as Ian Harding there. They taught me a lot over the six or seven years that I worked with them about investing, about following the Fed, and always watching what is happening with monetary policy, but also the key about focusing on earnings drivers for companies and also the fact that share prices will follow that earnings growth. So they would probably be the three people that have really helped me.

Ally Selby: Has there been any lessons that have stayed with you throughout your career?

Catherine Allfrey: That one about follow the Fed, and that was pivotal last year. 

As soon as central banks are flooding liquidity into the market, that's obviously a clear signal to buy. Again, other lessons that I've learnt over time have been being patient and be well-diversified.

With management teams too, reading people I think has become increasingly important and understanding how people work and the difference between a fraudster and someone who you can trust. I think over time that experience has taught me that.

Ally Selby: Is there one investment theme or topic that you and the team are spending the most time debating right now?

Catherine Allfrey: We're bottom-up investors, so we don't invest thematically. But one thing that we're trying to look at long-term at the moment, and I'm going to leave aside inflation because I imagine a lot of fund managers have talked about that. I'm going to leave that aside and I'm going to say, we're actually grappling with China. 

China's caused a lot of pain on the trade side, particularly to the Australian economy, but it also is the land of opportunity, right? And when we look at China, we look at the fact that there's a massive ageing demographic. 

The census has just come out there and 30% of the population is going to be over the age of 60 within a few years. So that's just a massive market. It's very similar to Western democracies; we've got this ageing population. So for our health care companies, is there an opportunity in China? That's the sort of thing we are trying to grapple with because clearly, we've seen a lot of pain for Treasury Wine (ASX:TWE), we've seen pain for a2 Milk (ASX:A2M) in the last 12 to 18 months and we're trying to grapple with, is there a way of making money from investing in China. But also we're trying to work out what are the other export opportunities for Australia? So clearly our tourism exports have been hit very hard and also education, and is there a long-term market that will return for those Australian companies?

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Ally Selby: Moving on to a little bit more macro now, where do you think we are in the market cycle?

Catherine Allfrey: In terms of, are we at euphoria or are we at pessimism, I think it's optimistic, right? 

Every CEO or corporate we talk to at the moment, they're saying things are looking very optimistic for the Australian economy and their company operating within that economy - pretty much across the board.

Euphoria, there are certain sectors, clearly unprofitable tech, the SPACs, the Bitcoins. We've seen a lot of speculative behaviour this year and over the last of 6 to 12 months, and that's starting to unwind. With the threat of inflation and the threat of rising bond yields, we're actually seeing those questions over the valuations of those unprofitable areas of the market.

Ally Selby: What is one key idea or theme that you think investors have to get right to be successful over the coming decade?

Catherine Allfrey: Over the coming decade, wow, that's a big one. So clearly the rising bond yield is going to have an impact, right? In terms of, as we move back to normalcy. There has to be an impact on multiples and what happens to multiples. 

The question is can earnings growth make up for that contraction in multiple? And we're already starting to see it in the market because we've got this positive earnings revision coming through, plus the multiples are contracting as those earnings are rising. 

So I do think it's really back to that inflation argument, rising interest rates, and that is going to be one area that you have to really grapple with over the next 10 years. But China, like I was saying before, China is a big theme and our export dependency on China and also the land of opportunity, as I said before, clearly there is an opportunity there, so we've just got to work out how we can make money out of it.

Ally Selby: You've spoken a lot about China and healthcare and also export opportunities for Australia. Are there any other ideas or long-term investment ideas that you're backing at the moment?

Catherine Allfrey: When we invest, we try to look on a three to five-year horizon. So if you're even looking on a further horizon, we're still looking at those sort of left behind recovery plays such as Sydney Airport (ASX:SYD). Clearly, it's been terribly impacted by what's going on with the borders being closed. And we do think tourism will return at some point. So we're prepared to wait that out with a company like Sydney Airport, which we see as a monopoly asset here in Sydney. It's an iconic asset and those tourists will come back and again, that company will thrive. So that's one company that we think in terms of a long-term trend will be a beneficiary.

Ally Selby: And just finally, I'd love to know if you have one piece of advice for investors so that they can be successful.

Catherine Allfrey: Well, I always say be patient, be diversified, but also our big philosophy is the fact that share prices follow growth in companies earnings. 

We are very focused on what are the earnings drivers for companies, and what is the earnings growth outlook for that company?

And if you see any of those drivers wavering or you see obviously a downgrade, then move on, find something else to invest in.

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