Three bets on China’s consumers

Each week, a professional investor tells us where he’d put his money. This week: Charlie Awdry, Henderson China Opportunities.

Our strategy for investing in China is simple. We look for unexpected earnings growth and have a preference for companies with strong franchises and sustainable barriers to entry that allow them to fend off competition and generate stronger-than-expected profitability. We typically invest in firms with great products driven by superior research and development and strong brands that give pricing power and generate customer loyalty. The rise of consumerism is the foundation of the case for investing in Chinese stocks, driven by increasing urbanisation, rising incomes and wealth and a generation-by-generation change in consumer patterns. Today’s under-30s in China are totally different consumers from their parents.

Nexteer (Hong Kong: 1316) is a vehicle-parts business that started in the US and has its headquarters there. It has a long relationship as a supplier to GM and other global brands. The firm was bought by a Chinese state-owned enterprise in 2011 and listed in Hong Kong in 2013. It has expanded rapidly by supplying steering systems to the growing Chinese vehicle market. A key driver of sales has been the upgrade to electric power-steering technology. Nexteer has a huge order backlog of almost US$26bn and is winning market share and increasing the dollar value of its business, which should insulate the company from the cyclicality of the car business. Despite generating strong profit growth, the stock currently trades on 11.5 times 2017 earnings, a significant discount to Hong Kong-listed peers that trade for around 14 to 17 times earnings.

Yum China (NYSE: YUMC) owns the KFC and Pizza Hut brands in China. It spun off from parent Yum! Brands into a separate listing on the US stockmarket. As part of the spin-off, Ant Financial Services Group, which operates the Alipay mobile payments platform, became a strategic shareholder. The fast-growing mobile payments sector now makes up about 30% of the group’s sales, with more than US$500m of revenue coming from cashless payment methods. The business is highly cash generative and management is committed to paying dividends and growing profits. After positive quarterly results, the stock price has risen. The shares are currently trading on 24 times 2017 earnings − but high-quality firms aren’t often cheap, especially in emerging markets. 

Investors’ expectations for the Chinese property sector are very low, but a broad-brush negative view is too simplistic. There are many very poorly managed property developers in China, but those with scale, experience, robust balance sheets and access to cheap capital should continue to grow. We think state-owned developer China Overseas Land (Hong Kong: 0688) is mispriced, trading on 7.1 times forecast 2017 earnings and generating a 3.6% dividend yield. The new chief executive has returned after two years at a privately owned business, and it is hoped he will bring a fresh set of eyes to the company.