Monthly Commentary - May 2020
Chinese economic recovery continued in May as factories increased capacity, office buildings opened their doors to workers and retail and restaurants began taking in customers. Retail is still depressed but showing signs of life as auto sales jumped reflecting pent-up demand. Credit expansion continues and average lending rates are lower reflecting moderate success from Central Bank easing. The National People’s Congress convened on May 22 and announced its intention to amend Hong Kong’s National Security Laws, which could allow more mainland intervention. This intention created significant controversy locally in Hong Kong, as well as internationally. With U.S. – China tensions back in the news, Hong Kong shares suffered significantly in the second half of May, before rebounding in early June.
PERFORMANCE, CONTRIBUTORS AND DETRACTORS:
For the month ending May 30, 2020, the Fund returned 2.52%, outperforming its benchmark, the MSCI China All Shares Index, which returned -1.58%. From a sector perspective, the Fund’s holdings in the consumer discretionary and communication services sectors contributed to relative performance. In contrast, the Fund’s holdings in the health care sector was a mild detractor to relative performance.
A contributor among individual stocks was Meituan Dianping, China’s largest food delivery service. We believe the company enjoys a dominant market share in food delivery. In addition to its core operations around food delivery, Meituan’s superapp also include features services such as business and services reviews and travel bookings. Forecasts of increased profitability for Meituan’s food delivery business has caused the stock to rise in recent months. We continue to believe that Meituan Dianping will benefit from economies of scale as increased user penetration of its food delivery business helps to drive down its delivery costs and improve unit economics.
A detractor among individual stocks was information technology (IT) outsourcing and services provider Chinasoft, whose biggest customer is Huawei, the telecom equipment and consumer electronics manufacturer. Concerns over a slowdown in Huawei’s operations led to a decline in sentiment toward Chinasoft. Despite near-term concerns about Huawei’s growth prospects, we believe Chinasoft has attractive long-term growth potential, with the ability to grow and diversify its client base over time. We also believe it has the potential to become one of the larger and more substantial IT outsourcing providers in China.
While China’s economic recovery is still in very early stages, recent data suggests the pace and progress of the recovery may be sustainable. CapEx spending among businesses, auto sales among consumers and property sales all began to rebound in April and May. This is not to suggest that China is out of the woods yet. The potential for a second wave of virus infections remains, particularly as Chinese citizens return home from abroad. Unemployment remains high in China, as it does globally, which could create a drag on spending. And a slowing global economy could slow China’s rebound.
On the positive side, China has done a much better job of flattening its curve of new infections than any other large economy. Public health policy is robust and run by the central government, providing coordinated response. China still has considerable dry powder in its arsenal of stimulus tool, and long-term secular growth trends in China remain in play. Consumers continue to seek upgrades across all facets of quality of life. Some of these upgrades may be delayed, but we believe consumer behavior remains remarkably consistent over the long term.
While additional volatility could lie ahead, we believe the long-term prospects for Chinese companies with strong competitive positions remain attractive. The pandemic has enabled some strong players to become even stronger and gain market share. And periods of market disruption have historically spurred new opportunities for innovation and business investment.