China Hand

Has that affected the way that you are able to manage the fund at all? It really doesn’t make that much difference because the flows have not been impacted–it’s when you have small funds, and when you have big flows in and out, that you find it difficult. I would say on balance, of course, it’s always nice to have a closed-end fund because you don’t have to worry about redemptions, and new money coming in, and you can control the flows a lot better, because very often there’s a tendency for you to get more money in when the markets are at their peak, and that’s the worst time to have money [coming in]; you want to have money [coming in] at the bottom. All things being equal, I would say closed-end funds are a little easier to manage–[it] doesn’t necessarily mean that they will perform better–but our experience has been pretty good with the closed-end funds, particularly in the U.K., [where] we have an investment trust that has done very well. Looking at the China Fund, I would say there hasn’t been that much difference.

What’s your investment process for the fund? We use the same process that we do for all the other funds. We have teams of people in each of the major areas. We start with a bottom-up process, doing a very close investigation of companies. We start with a master list, then narrow it down to a smaller list, and then go into depth, going back five years into the financial history of the company. Of course, we visit the company, meet the management, and come up with documentation, which is then reviewed by a team of five people plus an industry analyst. They come to a consensus on what the buy and sell price should be, and then we enter it into our so-called action list from which the asset allocators allocate the different names on the action list.

Would you talk about your large or favorite holdings? [Mobius will not talk about individual stocks.] Banks have been important to the performance of the fund since they reflect the generally positive economic growth pictures in Asia. Recently, the technology sector has been a winner with [one company] doing particularly well as a result of their transformation from merely OEM manufacturers to developing their own brands so they can expand their profit margins. Finally, in the energy sector high oil and gas prices have pushed up prices of stocks.

We like the mobile phone business in China–in fact all around the world it’s a very good business–it’s growing fast and the numbers in China are particularly impressive. The average revenue-per-user, of course, has come down as the numbers get larger, because you’re moving down the socio-economic levels.

Would you say a little more about the mobile phone and oil sectors? They’ve been big winners for the fund and they continue to perform very nicely. The interesting thing that’s happening is with the growth ratios here in China. The earnings growth of [some of] these companies has been quite good, so that even though the market prices have moved up, the price/earnings ratios have not moved very much because the earnings have kept up with the price increases. We are still buying these companies at single-digit P/E levels, which is quite good.

Have there been any holdings that have really been disappointing? Not really; we’ve had pretty good luck across the board. There have been a few of the Taiwan tech stocks that have not performed well, but they’re now beginning to come back, so I would say, overall, that Taiwan stocks have not been winners, but that doesn’t mean that’s going to stay that way.

For the U.S. investor, where would you think that the fund would fit in their portfolio? I think the individual investor has got to start with a global fund as sort of the foundation–looking at all countries without exception–and then in a global emerging markets fund, and then going to a China fund, or an India fund, or an Asia fund. That’s probably the best strategy because China will not always be the best performer; but if you look at the long-term potential, China, of course, stacks up very high, and at this stage, China’s stocks are not that expensive. To contrast it with India, India has gotten pretty expensive, on a price-to-book or P/E ratio level, whereas Chinese stocks have not.

Why is that? In India you had these tech stocks, the software companies–you know, the call centers–and these ran up a lot; then the pharmaceutical companies did very, very well–they ran up and that created a lot of excitement in the market, then you had a lot of foreign investors coming in. There were combinations of things that resulted in a runup of that market.

So the China market still has not caught on the same way as the India market? The interesting thing about China is that the domestic market, the “A” market, has been a terrible market. It is actually the only emerging market that has gone down when all the rest went up. The reason for that is a combination of factors, because a few years ago the market ran up to very high levels, crashed down, and a lot of retail investors lost a lot of money so they’re down on the market. In addition to that, there’s an overhang of government shares because all those–mostly listed–stocks in China have a majority government ownership and the government has said, “We want to sell those shares.” So that is hanging over the domestic market. It’s a very interesting situation where, on the one hand, you have this domestic market, which ran up to very, very high levels, and came down very badly; then you have the “H” share market in Hong Kong and the Red Chips in Hong Kong, which are Chinese companies listed in Hong Kong and selling at a lower price than the mainland Chinese, the A shares. Of course, that gap has narrowed, the discount has narrowed, but still it’s quite attractive, and for that reason these markets have moved up. It’s very interesting–it’s one of the few places in the world where you can, as a foreigner, buy cheaper than the locals–that doesn’t happen very often.

Staff Editor Kate McBride can be reached at [email protected].