Robeco Chinese Equities - We are bullish on Chinese equities markets in 2017
For professional investors
Victoria Mio, CFA CPA FRM
CIO China, co-Head Asia Pacific Equities, Portfolio Manager Robeco Chinese Equities
February 2017
Este documento se acoge a las disposiciones de la norma de carácter general Nº 336 de la Superintendencia de Valores y Seguros. Este documento versa sobre valores noinscritos en el Registro de Valores o en el Registro de Valores Extranjeros que lleva la Superintendencia de Valores y Seguros, por lo que tales valores no están sujetos a lafiscalización de ésta. Por tratar de valores no inscritos no existe la obligación por parte del emisor de entregar en Chile información pública respecto de los valores sobre losque versa esta oferta. Estos valores no podrán ser objeto de oferta pública mientras no sean inscritos en el registro de valores correspondiente.
China stock market is the best performance market in YTD 2017
Source: MSCI, Morgan Stanley Research, 21 Feb 2017.
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2017 YTD Return Comparison in US$
China surprised on upside
> Real GDP growth 6.8%
> Nominal GDP growth 8%
> 2017E EPS growth 15%
> CNY appreciate 1%
-5.0%
0.0%
5.0%
10.0%
15.0%
20.0%
MS
CI B
razil
MS
CI C
hin
a
MS
CI T
aiw
an
MS
CI In
dia
MS
CI K
ore
a
MS
CI U
SA
MS
CI J
ap
an
MS
CI E
uro
pe
MS
CI R
uss
ia
Go
ld
US
Go
vt
Bo
nd
10
Yr
Oil
China stock market outperforms emerging markets in the long term - except last 3 years, and now getting back on track
Source: MSCI, Morgan Stanley Research. Monthly data as of January 2017.
3
MSCI China versus MSCI EM – Total Return Rebased Index in US$
CAGR13.0%
CAGR10.0%
50
100
200
400
800J
an
-02
Jan
-03
Jan
-04
Jan
-05
Jan
-06
Jan
-07
Jan
-08
Jan
-09
Jan
-10
Jan
-11
Jan
-12
Jan
-13
Jan
-14
Jan
-15
Jan
-16
Jan
-17
MSCI China
MSCI EM
(Log Scale)
> Higher GDP growth
> Higher EPS growth
> Higher dividend yield
> Stronger currency
> Structural shift
China’s vibrant private sector is closed to 50% of MSCI China’s market cap
Source: MSCI, Morgan Stanley Research. Monthly data as of January 2017.
4
State-Owned Enterprises (SOEs) vs non-SOEs Fast Company World’s Most Innovative Companies
We see sizable upside potential for MSCI China in 2017
Source: Robeco
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Factors Rating Comments
1) Macro +1 China macro: improvements across the board -• Nominal GDP recovery• Corporate earnings recoveringChina macro: some risks remain -• Trade wars with the US• RMB volatility and capital outflowsGlobal macro: fundamental recovery and uncertainty• Fed rate hike • Brexit negotiation & EU elections• Global central banks tighten monetary policies.
2) Earnings revision +1 - Bottoming out
3) Valuation 0 - MSCI China forward P/B 1.7x, below historical average
4) Sentiment +1 - GEM positioning at historical low, fund flows from Southbound
5) Technical +1 - YTD strong performance momentum
Recommendation +1 Turn bullish for 2017
2) Earnings revision: Consensus earnings estimate is 15%, 12% for 2017, 2018
Source: IBES, DataStream, Bloomberg, Morgan Stanley Research. Data as of month end Jan 31, 2017.
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MSCI China Trailing EPS Trend and Estimates
2.0
2.5
3.0
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
Dec-0
5
Dec-0
6
Dec-0
7
Dec-0
8
Dec-0
9
Dec-1
0
Dec-1
1
Dec-1
2
Dec-1
3
Dec-1
4
Dec-1
5
Dec-1
6
Dec-1
7
Dec-1
8
MSCI China Trailing EPS
Consensus EPS Estimates
Post 2-phases of ADR inclusion
3) Valuation: still lower than its historical average and lower than MSCI GEM
Source: IBES, DataStream, Bloomberg, Morgan Stanley Research. Data as of month end Jan 31, 2017.
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MSCI China PB is below 16 year historical average (with ADRs included)
2.04
2.75
3.46
4.17
1.33
0.62
1.71
0.0
1.0
2.0
3.0
4.0
5.0
6.0
Dec-99 Dec-01 Dec-03 Dec-05 Dec-07 Dec-09 Dec-11 Dec-13 Dec-15 Dec-17 Dec-19
Red line is the long term average level
Dotted lines are PBV levels away from the LT average level by standard deviations
4) Sentiment: Historic underweight in MSCI China by Global Emerging Markets Funds
Source: MSCI, Morgan Stanley Research. Monthly data as of January 2017.
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Historical underweight in MSCI China
4) Sentiment: Persistent inflows from new investor base – the China institutional investors
Source: CEIC, Morgan Stanley Research. Data as of Jan 31, 2017.
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Total Southbound Net Inflow (SH+SZ Stock Connect)
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
0
10
20
30
40
50
60N
ov
-14
Jan
-15
Ma
r-15
Ma
y-1
5
Ju
l-15
Sep
-15
No
v-1
5
Jan
-16
Ma
r-16
Ma
y-1
6
Ju
l-16
Sep
-16
No
v-1
6
Jan
-17
% SH-HK Southbound Daily Quota Used (RHS)
SH/SZ Southbound Total Cumulative Fund FlowU$Bn
1) Macro: China’s economy has rebounded notably since 2016
Source: Wind, Deutsche Bank Strategy Research
10
Both real and nominal GDP rebounded thanks to demand recovery and strong PPI
Macro Driver #1: China is rebalancing…
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… away from investment towards consumption
Source: BofA Merrill Lynch Global Research estimates, Robeco
Macro Driver #1: By 2020, Chinese consumption will have grown by 2.3 Tn USD, similar to size of Japan, and 1.3x of size of Germany or UK, even if GDP growth slows to 5.5%
Source: Economist Intelligent, BCG Analysis
Note: Assumes annual GDP growth rate of 5.5%. Because of rounding, not all numbers add up to the totals shown
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Macro Driver #2: Infrastructure spending is counter cyclical
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> To counter the negative pressure on GDP growth, the Chinese government accelerated government-led investment in infrastructure projects.
Source: Bloomberg, DB Research
FAI breakdown
Macro Driver #2: Infrastructure spending is part of Belt and Road initiative
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Source: Shanghai International Studies University.
> To date, more than 100 countries and international organizations have joined the Belt and Road Initiative
> Belt and Road Summit for International Cooperation on May 14th and 15th 2017 in Beijing. Leaders from about 20 countries have confirmed their participation, representing Asia, Europe, Africa and Latin America
Macro Driver #3: Demand grew from new round of industrial restocking
Source: Bloomberg, DB Research
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Industry inventory cycles
Macro Driver #4: China’s export is able to maintain its high market share
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Source: Bloomberg, DB Research
World export market share by country
0%
2%
4%
6%
8%
10%
12%
14%
199
0
199
2
199
4
199
6
199
8
200
0
200
2
200
4
200
6
200
8
2010
2012
2014
2016
China Germany U.S. Japan Korea Netherlands
World export market share, 12MMA China
Risk #1 Trade War: US-China bilateral trades are important to both economies
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5%
15%
25%
35%
45%
55%
65%
199
0
199
2
199
4
199
6
199
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200
0
200
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200
4
200
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200
8
201
0
201
2
201
4
201
6
China total trade (goods) as % of GDP
US total trade (goods) as % of GDP
33%
20%0%
2%
4%
6%
8%
10%
12%
199
0
199
2
199
4
199
6
199
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200
0
200
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200
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200
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200
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201
0
201
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201
4
201
6
as % of China GDP as % of US GDP
Total value of US-China trade
4.7%
2.9%
4
6
8
10
12
14
16
18
200
1
200
2
200
3
200
4
200
5
200
6
200
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200
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200
9
201
0
201
1
201
2
201
3
201
4
201
5
201
6
US as % of China trade
China as % of US trade
% of total trade (12mma)
16%
14%
0%
50%
100%
150%
200%
250%
300%
0
50
100
150
200
250
300
199
2
199
4
199
6
199
8
200
0
200
2
200
4
200
6
200
8
201
0
201
2
201
4
201
6
China-US trade surplus (goods)
China-US trade surplus as % of Chinatrade surplus - RHS
(US$bn)
Source: Haver, CEIC, Goldman Sachs
Risk #1 Trade War: How tariff hike will impact China growth?
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Potential impacts of tariff hike is limited
Source: Goldman Sachs
Change of US tariffs (China) +10pp +20pp +30pp +40pp +42pp*
Impact on US imports from China -5% -10% -15% -20% -21%
Impact on China production (as % of GDP) -0.5% -1.1% -1.6% -2.1% -2.2%
Impact on China GDP (nominal) -0.1% -0.3% -0.4% -0.5% -0.6%
(Assume: 10% cut of US imports could reduce China total production by 3x of it)
Note: * indicates the situation if the US increases tariffs on China exports from current level (about 3%) to 45% as Trump
proposed.
Sensitivity on change of US tariffs
(Assume: 10% increase in US import tariffs could depress US imports by 5%)
(Assume: 10% cut of US imports would lose 0.3% of China's GDP, nominal)
Risk #2 Financial crisis?: China's debt level is high, similar to other major economies
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International comparison of domestic nonfinancial sector debt
Source: CEIC, Haver, UBS estimates, Robeco
0
100
200
300
400
500
China US Korea… UK Euro zone… Japan
General government Non financial corporate Household
Domestic non-financial debt (% of GDP, 2015)
270%
Risk #2 Financial crisis?: NPL formation rate of Chinese banks reduced to 2-year low
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Estimated NPL Formation rate is dropping as the economy recovered
Source: WIND, Deutche Bank Strategy Research, Robeco
Risk #3 Property Bubble: Income increase helps housing affordability
Note: (1) The home price to household disposable income ratio is calculated assuming flat size of 90sqm.
(2)The sample of Tier-2 cities includes all provincial capitals except that in the West and Northeast part of China, and Tianjin, Chongqing, Ningbo, Xiamen and
Qingdao (19 cities in total). The sample of Tier-3 cities includes provincial capitals in the West and Northeast part of China and Dalian (12 cities in total).
Source: BofA Merrill Lynch Global Research estimates, CEIC
4
6
8
10
12
14
16
98 00 02 04 06 08 10 12 14 8M16
National Tier-1 Tier-2 Tier-3
Price-to-income ratio (x)
Risk #3 Property Bubble: Household debt is low compared to other countries
Source: Haver Analytics, DB Research as of 2Q2016
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Risk #4 Capital outflows: RMB has been stable against a basket of currencies (CFTES)
RMB has been tracking CFTES recently
Source: UBS Research
6.1
6.2
6.3
6.4
6.5
6.6
6.7
6.8
6.9
7.092
94
96
98
100
102
104
106
108
01/15 03/15 05/15 07/15 09/15 11/15 01/16 03/16 05/16 07/16 09/16 11/16 01/17
CFETS RMB exchange rate index USDCNY (RHS)
CFETS RMB
exchange rate index
USDCNY (Inverted))
CNY Stabilized against the basket of currencies
Robeco Chinese Equities – Long Term Investment Themes
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Investment themes: Aligned with macro fundamentals & structural reforms
Source: NDRC, State Council announcement, Robeco
Key Themes Rationales Overweight Sectors
1) Consumption Upgrade Raising minimum wages, transfer payment for healthcare, education, pensions
Consumer Discretionary
2) Technology and Innovation Government to support and stimulate consumption in:culture, entertainment, internet, gaming, travel, IT services
Internet and Hardware
3) Healthcare Reforms Expand access to healthcare services to rural ChinaImprove quality of care and deliver cost-effective care
Healthcare & Services
4) Supply Side Reform Reduce excess capacity, particularly in the raw material industries such as coal, cement, paper and steel
Commodities
5) Industrial Recovery PPI reflation positive to industrial profits and an inventory restocking cycle has started
Infrastructure industrials
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We expect New China to continue to outperform relative to Old China
Source: Bloomberg, Morgan Stanley Research, Feb 2017
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Robeco Chinese Equities current portfolio exposures
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Portfolio breakdown (New vs Old Economy) Over/underweight vs Reference index
New Economy 57%
Old Economy 43%
Old
eco
no
my
New
econ
om
y
Source: Robeco, as of 23 Feb, 2017
IT37%
Discretionary10%
Health Care5%
Telecom3%
Staples2%
Energy6%
Financials21%
Industrials8%
Materials6%
Utilities2%
Real estate0%
4.5%
3.0%
0.0%
-0.3%
-4.3%
4.0%
2.6%
-0.3%
-0.3%
-3.8%
-6.3%
Discretionary
Health Care
Staples
IT
Telecom
Materials
Industrials
Energy
Utilities
Real estate
Financials
Theme #1: Consumption upgrade – Education sector as an example
Source: GS Research, Robeco
Significant growth potential in Discretionary
Consumption
Theme #2: Technology and Innovation: iPhone 8 cycle
> China is moving up the tech hardware value chain thanks to a maturing domestic ecosystem. China is not only the world’s biggest IT consumption market, but also the biggest IT manufacturing base.
China market: Chinese brands’ market share
Theme #3: Supply Side Reform – selective commodity exposure
> The supply side reform is reduce excess industrial capacity and shred unviable assets
Source: CS, Robeco
Net Capacity Addition as a % of Total Supply – Coal, Steel and Cement to see most reduction
Theme #4: Industrial Recovery: infrastructure construction and machinery
Source: Wind, Deutsche Bank Strategy Research
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Significant growth in sales is driven by both end demand and replacement demand
Theme #5: Healthcare Reforms: innovative drugs, health services and devices
China healthcare sector market size
Source: China National Pharmaceutical Industry Information center
1,9832,380
2,8013,227
3,7224,254
4,851
5,532
6,310
7,180
8,000
0
2,000
4,000
6,000
8,000
10,000
2010 2011 2012 2013 2014 2015E 2016E 2017E 2018E 2019E 2020E
Pharmaceutical Medical devices Health services
2014-2020E CAGR: 14%
2010-2014 CAGR: 17%
Executive Summary: We are bullish on Chinese equities market in 2017
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> Macro: 1) Rebalancing towards consumption and services is a success; 2) Infrastructure investment and Belt & Road Initiative boost demand; 3) Industrial restocking cycle and supply side reform boosts industrial sectors; 4) Synchronized global recovery lifts China’s export and import
> Earnings: Consensus earnings estimates are 15%, 12% for 2017, 2018, and still upgrading
> Valuation: Still lower than its historical average and lower than MSCI GEM
> Sentiment: 1) Historic underweight in MSCI China by Global Emerging Markets Funds; 2) Persistent inflows from new investor base – the China institutional investors
> Technical: MSCI China is the best performance market in YTD 2017
> Investment Themes for 2017:
> 1) Consumption Upgrade
> 2) Technology and Innovation
> 3) Healthcare Reforms
> 4) Supply Side Reform
> 5) Industrial Recovery
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