An announcement last week of a near 20% contraction in the economy of Macau, one of China’s Special Administrative Regions, during the fourth quarter of 2014, has led many investors to wonder whether what has been a tremendous opportunity in the world’s largest gambling destination is over.
Over the past months, investors , who in recent years have made a killing on Macau gaming stock, have seen returns decline as a result of a number of factors that have affected casino revenue, including a stringent anti-corruption drive by Chinese authorities, a crackdown on money laundering and a restriction in the number of visas issued to Chinese VIPs, the bulk of the Macau casino clientele. Macau casinos must now also comply with an anti-smoking law that some believe will limit their appeal even further. But while the introduction of the anti-smoking law led to an immediate revenue decline of between 20% and 30% in casinos in the United Kingdom and Australia, “in the Chinese case, it would appear that the gambling instinct is stronger,” said Edmund Harriss, investment director at Guinness Atkinson Funds in London, who manages several Asia-focused portfolios.
That’s why Harriss isn’t ready to give up yet on Macau, where the gaming industry has grown in leaps and bounds and surpasses Las Vegas as the global gambling headquarters. Like many others, Harriss did very well on Macau gaming stocks and he views the current state of the market as a “cyclical phenomenon, a time at which there are inevitable structural changes taking place.”
Although these will alter the nature of Macau and the gaming industry, they will result in a different kind of marketplace in the longer term, so for investors, the question now is whether to stay the course and wait for a cyclical uptake, said Harriss, or dismiss Macau as “ex growth,” based on the rationale that gaming stocks will probably no longer deliver the hefty returns they once did.
For his part, Harriss is choosing to stick with his sole Macau holding, Galaxy Macau, a company that is expanding in tandem with the Macau government’s plans to diversify away from a pure casino location and turn the island into a family holiday destination. VIP gamblers from China have been the most important source of revenue for Macau to date, Harriss said, but the resort destination plan has potential for Macau, and as a part of that, Galaxy—one of the early players looking to expand into non-gaming entertainment areas—has great potential because the Chinese consumer growth story still has a long way to go.
For Mike Avery, president of Ivy Funds, Macau’s shift away from catering toward a high-end clientele in order to reach out to middle class customers is the next logical step in the development of the Chinese consumption dynamic. Avery has been investing in China since 2002 and since then, he’s seen China successfully transition from an agrarian economy to an export-based economy and now, to an economy driven by domestic consumption that may not grow at such a fast rate but will still prove stable.
“In Macau over the past 12 to 14 months, the VIP clientele has pulled back but it’s not too different from what we saw in the U.S. after the Korean War, when people had more money to spend and they spent it on entertainment,” Avery said. “People spent money on cars and they went to Disneyland and that’s what’s happening in China – people want to buy BMWs and they want to go to Macau.”
To the extent that Macau can position itself as a Disneyland for Chinese consumers and for tourists from other parts of Asia as well (particularly from countries like India, where discretionary incomes are also on the rise), then the growth potential is huge, Avery said, and there will be plenty of opportunities for international investors as new resorts and entertainment complexes spring up. Avery also believes that Macau’s casinos and gaming stocks can still prove a good investment bet.
“In China, games of chance are deeply embedded in the culture,” he said. “Go through any park on a Sunday, or walk through the alleyways of a city during the week, and you’ll see people playing Mahjong for money. In the Macau casinos, the approach is different than it is in Las Vegas—gambling isn’t about entertainment and people take it very seriously.”
To the extent that the casinos can open up the middle classes, then, they have great potential.
For its part, Galaxy has planned to extend its casino offerings and should be able to secure between 200 and 500 of the 1,000-odd new casino tables that the government has authorized, Harriss said. Of course, 70% of Galaxy’s earnings were from high networth, VIP Chinese gamblers, “but we feel that after a three-year hiatus in casino openings, there is a likelihood of increased demand and for gaming stocks, we’re looking at a stabilization in gaming revenue and a positive response to the new openings,” he said.