structural reforms are shaping the ‘new ... - larrainvial

Structural Reforms are shaping the ‘New’ China

For institutional investors

Victoria Mio, CFA CPA FRM

CIO China, co-Head Asia Pacific Equities

Fund Manager Robeco Chinese Equities

For professional investors

Macro: 2014 macro economic environment remain stable

2

Source: CEIC, Morgan Stanley, Robeco

Robeco Chinese Equities

We expect 2014 will be a year of reform and the economic environment will be similar to 2013:

> GDP growth is likely to be around 7.5% in 2014, with growth flattening out in 1H2013 and accelerating in 2H2013.

> Consumption is likely to remain resilient, with 13% expected growth in retail sales.

> Investments are likely to decelerate further, but we still expect 16% growth in fixed-asset investment. Property FAI is likely to be the main driver; Infrastructure FAI will remain flat; manufacturing FAI will be flat to declining.

> Export is likely to be stable, with 8% growth in exports, due to the economic recovery in the US, EU and Japan.

> Inflation is likely to be under control, with CPI at 3.5%.

> Monetary policy is likely to stable, but the liquidity environment will be tight, especially in the interbank market due to financial innovation.

> Fiscal policy is likely to expansionary, with strong focus on urbanization, e.g. healthcare, pensions, public housing, the environment, and water and sewage systems.

Reforms: China’s GDP growth was driven by structural reforms

3

Source: CEIC, Morgan Stanley, Robeco


Historical avg = 9.7%

0

2

4

6

8

10

12

14

16

197

8

197

9

198

0

198

1

198

2

198

3

198

4

198

5

198

6

198

7

198

8

198

9

199

0

199

1

199

2

199

3

199

4

199

5

199

6

199

7

199

8

199

9

200

0

200

1

200

2

200

3

200

4

200

5

200

6

200

7

200

8

200

9

201

0

201

1

201

2

2013

F

2014

F

2015

FAn

nu

al

Re

al

GD

P G

row

th,

% Y

oY

Rural

Reform

Price

Reform

Hyper

Inflation

Market-based

Reform

Joining WTO

=> Export booming

Asian Financial

Crisis

US Financial

Crisis

EU Financial

Crisis

Deepen Market-based

Reform & Urbanization

China Real GDP (2012 Price, Rmb Bn)

0

10000

20000

30000

40000

50000

60000

70000

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

F

2014

F

2015

F

Real GDP (2012 Price, US$Bn based on 2012 Exchange Rate)

1978 = US$339Bn

2012 = US$8221Bn

Reforms: China’s economy is incrementally privatized

4

Source: CEIC, CLSA, Robeco


> The state-controlled sector is decreasing its influence on the Chinese economy (approximately 40%)

> The private sector employs the majority of the urban work now

Reforms: Comprehensive Reform Agenda from the 3rd Plenum

5 Robeco Chinese Equities

Economic reform Political reform

Market to play ‚decisive‛ resource allocation New standards to evaluation officials

Promote ‚mixed ownership‛ of SOEs Strengthen anti-corruption efforts

Level the playing field of SOEs and private sectors Improve government budget and taxation systems

Increase SOE dividend pay-out to 30% Reform the judicial system

Set a fair, open and transparent market regulation system Social reform

Establish unified rural/urban land market Relax one child policy

Support the Free Trade Zones Strengthen social security & healthcare system

Accelerate Rmb convertibility & capital account opening Strengthen education and vocational training

Strengthen protection of intellectual property Cultural reform

Impose property tax, luxury tax, close loopholes Improve the culture market system

Promote urbanization Build a modern public cultural service system

Improve the natural resources assets property rights system Military reform

Reform environmental protection management system Deepen structural and organizational reform of the army

Accelerate the financial market reforms Promote civil-military integration

> The ‘Decisions’ (Decisions on Major Issues Concerning Comprehensively Deepening Reforms) – set out substantial and actionable reforms to realize the Chinese Dream.

> Reform Leadership Group was set up to take charge and bypass bureaucracies and interest groups.

Reforms: impacts on the economy, industry and company levels


> The overarching theme of the Decisions is to reduce the government’s influence on the economy and let the market take on a more ‚decisive‛ role in allocating resources.

> "Deregulation" will receive top priority with the new government under the reform agenda.

> Reforms will level the playing field for state-owned enterprises (SOEs) and private sectors (POEs), and introduce more competition.

> The reform impacts on the sector are summarized below:

Sectors Impacts Reform Impacts New energy / environment +2 Deregulation (+), environment protection (+), resources pricing reform (+)

Insurance / Brokerage +2 Deferred tax (+), multi-level capital market (+), securitization (+), muni-bond and IPO reform (+)

Healthcare +2 Urbanization (+), fiscal reform (+)

Technology / consumption +1 Deregulation (+), urbanization (+), deregulation (+), urbanization (+)

Utilities 0 Deregulation (-), pricing reform (+)

Real Estate 0 Property tax (-), deregulation (-), urbanization (+)

Telecom -1 Deregulation (-)

Banks -1 Interest rate deregulation (-), allowing private participation (-), muni-bond (+), securitization (+)

High end consumption -1 Anti-corruption (-), fiscal reform (-)

Industrials / Materials -2 Anti-pollution (-), anti-corruption (-), fiscal reform (-), urbanization (+)

Traditional energy -2 Anti-pollution (-), anti-corruption (-), resource tax (-), resources pricing reform (+)

Divergence: huge performance differentials between sectors and stocks

> With the global crises behind us, fundamentals, rather than macro drive performance divergence

7

Source: MSCI, Morgan Stanley, Robeco, as of January 2014.


20

30

40

50

60

70

80

90

100

110

30%

35%

40%

45%

50%

55%

60%

65%

70%

75%

80%

Feb-07 Feb-08 Feb-09 Feb-10 Feb-11 Feb-12 Feb-13

Average Correlation of MSCI China - Rolling Correlations based on 50-Day Daily Price Changes

Average Correlation of MSCI China Historical Avg Correlation MSCI China

SOE reform is getting imminent


> 1. Breaking up large SOEs by separating their social functions from commercial functions.

> 2. Listing unlisted SOEs on the market.

> 3. Establishing a Temasek-like agency (or agencies) to manage portfolios of SOE shares.

> 4. Incentivizing SOE managers by lifting the cap on bonuses (currently no more than 40% of total compensation).

> 5. Purpose of these reforms is to improve SOE efficiency and to prepare them for intensifying competition from private and foreign firms.

9

RMB internationalization: on the path to become a reserve currency

Data source: Bloomberg, Robeco


> The Chinese currency appreciated 21% against the USD in the past 6 years, equivalent to 3.2% per year

> The EUR and non-China BRIC currencies depreciated between 7% - 36% in the same period

10

China is one of the least vulnerable EM economies to US tapering

Data source: Deutsche Bank, Bloomberg, Robeco


> China’s economic fundamentals are much healthier than most other emerging markets.

> Current account maintained a healthy surplus of about 2% in 2013 and will almost certainly stay in surplus in 2014.

Current account balance as % of GDP in 2013

A-shares could account for up to 13% of MSCI Emerging Markets Index

MSCI initiated a review in June 2013 to consider the potential inclusion of China A-shares in the MSCI Emerging Markets Index.

In an extreme hypothetical case, if the China A- share market were to be completely opened and various accessibility restrictions lifted,

China A-shares could represent up to 13% of MSCI Emerging Markets Index and China as a market could have a total index weight of close to 30% in the MSCI Emerging Markets Index

11 Robeco

Composition of current MSCI Emerging Markets Index Simulated Country Weight Distribution Assuming Full Inclusion

Source: MSCI

Investment themes: aligned with 12th 5 yr plan & structural reforms

12

Source: NDRC, State Council announcement, Robeco


Key Reform Areas Expected Reform Measures Overweight Sectors

1) Urbanization Building urban mass transit system & other infrastructure Increase social spending on education, healthcare, pension

Intra-city Transport Cement

2) Alternative energy reforms

Reform pricing system for water and energy tariffs Resource taxes and an environmental tax

Natural Gas Wind and Solar

3) Healthcare reforms Expand access to health services to rural China Improve quality of care and deliver cost-effective care

Healthcare

4) Income growth & distribution Reduce personal income tax Transfer payment for health care, education, pension

Consumer Discretionary

5) Environmental Protection 85% of all the city waste water has to be treated Expand incineration capacity by 28% annually

Waste Water Mgt. Solid Waste Mgt.

6) Technology and innovation Government to support to stimulate consumption in: cultural, entertainment, internet, gaming, travel, IT services

Internet and hardware

7) Financial reform Rising long-end bond yield and investment liberalization Reopen the IPO market, and rising non-performing asset cycle

Insurance Brokers, AMC’s

Themes example 1): alternative energy


> To ensure energy security and reduce the pollution stemming from traditional energy

> The Chinese government has set targets to increase the use of alternative energies, such as natural gas, solar, wind, shale gas, and bio mass.

Source: Bloomberg, Robeco, as of 20 January 2014.

Alternative Energy Reform Basket - 2013 performance

Themes example 2): environmental protection


> China’s environmental crises has risen to a point where the government can no long ignore it.

> The government’s plan for the waste-incineration sector is for CAGR of 27.9% during the 12th FYP

> There are investment opportunities in air pollutants removal, waste-to-energy, waste water treatment, and biomass.


Environmental Protection Basket – 2013 Performance

Themes example 3): technology innovation


> The mass adoption of smart phones spurs demand for mobile devices and mobile internet services

> Can you image a mobile platform developed in China that offers whatsapp + skype + instagram + google map + app store + paypal?

> Alibaba’s gross merchandise volume is already double that of Amazon and nearly 3x Ebay


Technology and Innovation Basket – 2013 Performance

Themes example 4): Financial reforms


> Financial deregulation and disintermediation would be negative to the existing listed banks as they would face lower NIM and intensified competition.

> China will develop a healthier yield curve by steepening the long-end bond yield, which would be positive to insurers. Reopening of the IPO market to diversify fundraising channels is positive to the brokers. Meanwhile AMCs will benefit from China’s rising non-performing assets.


Financial Reform Basket – 2H 2013 Performance

Themes example 5): Healthcare reforms


> China has rapidly extended basic medical insurance coverage to the vast majority of its urban and rural residents and strengthened its medical infrastructure at the grassroots level

> China will still need to deepen healthcare reforms. Therefore, the healthcare sector will be an attractive investment theme, particularly in the area of chemical drugs and traditional Chinese medicine.


Healthcare Reform Basket – 2013 Performance

Important Information

This document has been prepared on a confidential basis solely for the recipient and is for information purposes only. Any reproduction or distribution of this documentation, in whole or in part, or the disclosure of its contents, without the prior written consent of Robeco, is prohibited. By accepting this documentation, the recipient agrees to the foregoing.

This document is intended to provide the reader with information on Robeco’s specific capabilities, but does not constitute a recommendation to buy or sell certain securities or investment products. Investment decisions should only be based on the relevant prospectus and on thorough financial, fiscal and legal advice.

The content of this document is based upon sources of information believed to be reliable, but no warranty or declaration, either explicit or implicit, is given as to their accuracy or completeness. This document is not intended for distribution to or use by any person or entity in any jurisdiction or country where such distribution or use would be contrary to local law or regulation.

Investment involves risks. Historical returns are provided for illustrative purposes only and do not necessarily reflect Robeco’s expectations for the future. The value of your investments may fluctuate. Past performance is no indication of current or future performance.

This document has not been registered as a prospectus with the Monetary Authority of Singapore. Accordingly, this document and any other document or material in connection with the offer or sale, or invitation for subscription or purchase, of Shares may not be circulated or distributed, nor may Shares be offered or sold, or be made the subject of an invitation for subscription or purchase, whether directly or indirectly, to persons in Singapore other than (i) to an institutional investor under Section 304 of the Securities and Futures Act, Chapter 289 of Singapore (the “SFA”) or (ii) otherwise pursuant to, and in accordance with the conditions of, any other applicable provision of the SFA.

18 Robeco Chinese Equities February 2014

structural reforms are shaping the ‘new ... - larrainvial

Documents