The expert's guide to investing in China

If there's anyone who knows about investing in the Asian behemoth, it's Ox Capital Chief Investment Officer Dr Joseph Lai. He's been investing, winding, and stock picking his way through Asia since 2004 when he was at Platinum Asset Management. Lai was eventually promoted to become lead portfolio manager of the flagship Asia fund, taking over from the one and only Andrew Clifford.

Perhaps most impressively, when Lai left the Platinum Asia fund, it was worth in excess of $5 billion. 

When people think of investing and news in Asia, chances are the first place you think of is China. The country's geopolitical manoeuvers, infrastructure spending sprees, and homegrown technology innovation schemes have not left the headlines since the Global Financial Crisis. But it's those same headlines that have caused some investors, like big tech analysts at JP Morgan, to call some companies in China "uninvestable". 

Others like Steve Johnson at Forager Funds Management would not go that far, but do argue that the higher earnings multiples experienced in US stocks are there for good reason:

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China v US: Where should you put your money?

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In this edition of Expert Insights, we're going to take a deep dive into the tiger economy. From how to invest in Chinese assets to navigating the complex regulatory environment, we're confident that you'll be a more well-informed investor in China by the end of this video or a read-through of our transcript.

EDITED TRANSCRIPT

LW: How do you invest in Chinese assets?
Lai: The short answer is that the good news is that all these headwinds are very well known. However, it is a country that's done tremendously well in the last 30 years, in terms of economic development. The income levels on average, at least in the eastern seaboard of China, are essentially developed country status, right? 

So in terms of the easy growth story, I suspect it will still grow but it's going to grow a bit slower than in the last 20 years. So that's what we are faced with. And on top of that, there is more top-down control we believe from the authorities because I think of the challenges they're faced with, and challenges from the outside as well. But we think what's happening in China is that they are climbing the technology ladder.

I mean they're world leaders in a lot of industries, in electric vehicles, in battery making, in solar panels, and stuff like that. 

So we still think it is an interesting area to invest in, but the key is to be selective. The concerns over China in a way, help in terms of allowing us to get into the selected opportunities, which should do well in the next three, five, and 10 years. 

LW: Are you finding it difficult to selectively buy Chinese stocks?
Lai: So it's only difficult to the extent that there are lots of cheap companies. 

If you look at the Chinese market, given the overwhelming concern over the various things we all have read about. At almost every company you look at, they look cheap on a relative basis, relative to the rest of the world, and on an absolute basis in terms of price to earnings multiples, price to book. 

In China, we want to be selective so we want to choose the ones which have the companies with the good long-term trend, companies that have tailwinds with respect to, I guess, government regulations as opposed to headwinds. Great management [teams]. And also the valuation has to be absolutely mouthwatering before we want to jump in.

And there are a few, there are a few of them that we have invested in. So we think that there are a few things in China that will not see many headwinds going forward. In fact, it will be encouraged. 

On the other hand, there are things which I think we just won't see much encouragement from the government for certain sectors, for example, properties. They're building up properties, they keep building, but the volume will actually keep shrinking and shrinking. So I think that is why we are seeing the crackdown on the property sector because it is actually the authorities going well, we may not actually need to encourage this sector anymore. So if some of them actually go under, so be it, the banking system can cope with it.

What we are seeing is the sectors which are interesting are things like healthcare, things that benefit from the upgrading of technology domestically. There's a lot of desire I think from the authorities' perspective to look after the people better like most governments. We have looked at a range of healthcare stocks or companies in China, but we just wanted to pick the best. So we own this company called AK Medical (HKG: 1789). That is orthopaedic - basically, hip and knee joint maker. It acquired some foreign technology years ago and it's a local champion. 

Now it's competing with foreign competitors, but who actually charge much higher prices for the implants. But because the government wants to control the health spending in the country so that they can actually look after more people, there has been in the last 18 months, a bit of a crackdown on how these devices are sold in the hospitals. So fewer kickbacks, just making sure that there's less fluff, less fat in the system, in the supply chain.

So the result is the selling prices for these products have fallen. But the companies with good cost structures, with a good quality of product, and actually can supply in volume like AK Medical can actually suddenly gain market share in China. So the company's 20% market share is going to 30% very soon. And there's a long run of growth for this kind of stuff because there's been, well penetration of orthopaedic implants is grossly under, under-benchmarked in China. 

So that's going to ramp up, we've got a champion company that can ride this wave very nicely. The stock actually came down from about  HK$25 to about $3. We've been buying at $3 and it's gone up to about six now, but it's still reasonable value. 

LW: How does Ox Capital factor in shifts in regulation and policy?
Lai: We do look at the regulatory environment in all these economies very closely. It is important to know what industries are the local authorities encouraging. What is it and where does the government want the country to move towards?

Understanding that and understanding the context is what allows us to appreciate whether a particular theme is secular. Whether a particular theme is interesting in the long run. I mean, a simple example, as we discussed before, I mean, in a country like China, which has built lots of properties, and again, they will build more, but it's just that sector will shrink in terms of any new production of apartments, the government's against you, right? So where do you buy a company, and how can it grow? It can grow if it takes a lot of market share. But that's difficult, and maybe not profitably so when they gain the market share.

For example, if we go to India in the telecommunication space, it's a space that is very interesting to us because we know from a regulatory perspective, that they want these private companies to take over the market and to provide first-class data, telecommunication services, and mobile phone service to the 1.4 billion people to enable economic growth. The industry has gone through this big difficult competitive period where a lot of people went bust and they want two or three players to actually dominate the industry. So that is a very nice regulatory tailwind to take advantage of as the top line in these companies continues to grow. 

It's one of the few countries where we actually can see mobile phone companies charging more per user.

In most countries, mobile phone companies don't grow upward - it goes down or keeps flat. In this country, the top line usage is going up and there's a long runway to go. The valuation is attractive. So it's very important to understand the regulatory environment in all these countries.

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Ox Capital's investment approach is to identify the immense changes taking place in Asia and other key emerging markets to find investment opportunities. To learn more, visit our website, or see the Fund Profile below.

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