Niche Info Online Business

Jane Wallace, Daily Mail
15 November 2007

Funds investing in China and Hong Kong are posting fantastic returns. Jupiter China is up 92% in a year, Gartmore China Opportunities is up 96% and Invesco Perpetual Hong Kong and China 74%, according to data analyst Morningstar.

But how long can this boom continue and, crucially for investors, will it all end in tears?

Hong Kong is directly benefiting from the economic miracle that is 'Made in China'. Computers, toys, furniture and even socks are made for rock-bottom prices in what has become the factory to the rest of the world. And China, along with Hong Kong - its platform to the West - is getting rich on the back of it.

The recent hikes in the region's stock markets say it all. The Shanghai Composite index has risen a whacking 163% in the past 12 months, according to Yahoo Finance, while Hong Kong's Hang Seng has gone up by 39%.

The British FTSE 100 has limped along over the same time, says data provider Morningstar, recording just a 5% rise. Such amazing leaps do, however, ring alarm bells. It seems all too similar to the boom and bust in technology shares in the late 1990s.

This time it's different, say the fund managers - but they also said that about technology. So what is the story? Xian Quanqiang, senior analyst at First State Investments in Hong Kong, says: 'Those technology companies in the 1990s had no income. They were marketing themselves on a dream with no justification for a high share price.'

In complete contrast, he argues, Chinese companies are showing 'very robust growth' in revenues. Figures for the first half of 2007 saw earnings for the average company grow by an eyewatering 71% on the year before.

But can it continue? Local experts say even if there is a slowdown, growth rates will remain respectable.

'Look at the environment,' says Emerson Yip, investment manager at JF Asset Management in Hong Kong. 'These companies are in the fastestgrowing economy in the world.'

He points to telecoms firm China Mobile, whose target market is now the millions of people living in the nation's secondary cities who are yet to buy mobile phones. 'Other global firms would be hard-pressed to match that potential,' he says.

However, one area is definitely looking frothy: the so- called 'A share' market. These are shares of Chinese firms listed in Shanghai or Shenzhen, a city in southern China. Unlike Hong Kong, these stock markets are tightly controlled.

Chinese private investors cannot buy foreign shares directly so must stick to local firms, causing huge demand which drives up prices.

'People want to invest in shares and property because inflation means they are not earning anything on savings rates,' explains Nicholas Yeo, investment manager at Hong Kongbased Aberdeen International Fund Managers. 'Money is pouring into the stock market. If you are a fund manager, you can't hold on to it. You just have to invest it where you can.'

Mr Xian at First State thinks A-shares in general are 'substantially' overvalued and prices will fall back at some stage. But such a correction is likely to be controlled, either by government, or over time as local investors learn more about real values.

He says: 'One thing the Chinese Government wants to avoid is social instability. There are a lot of firsttimers with no understanding of risk who have put their life savings in the market. Turbulence could cause people to get upset.'

This would be particularly undesirable in the run-up to the Olympics in 2008. If you are investing in an emerging markets or China fund you could have exposure to these A shares, which are responsible for the massive over-valuation of some stocks.

Petrochina, for instance, if valued on its A shares price, becomes the largest company in the world, beating Exxon, but it has only a third of the revenues. In fact, there are signs the bubble may already have burst. The Chinese Premier, Wen Jiabao, announced on 5 November the much-vaunted plan to give mainland Chinese investors direct access to Hong Kong's stock market would be delayed.

The comments were widely interpreted as a warning against speculating in shares and, if so, it had the right effect. As the hot money moved out, Hong Kong's Hang Seng market plunged over 5% in one day and is yet to recover while the Chinese markets also declined, but not by so much.

Nevertheless, in contrast to the mainland, Hong Kong is viewed as more stable and sensibly priced. 'There are pockets of high value, but Hong Kong is not in a bubble,' says Mr Yip.

He believes the outlook is still favourable. Hong Kong can continue to piggy-back Chinese growth. And, because its currency is tied to the US dollar, its interest rates are falling in line with American rates, another spur to growth.

So should you invest, hold or get out? Despite short-term upsets, advisers think the longer-term picture is rosy, especially as China becomes politically and economically more important. Be prepared for a rough ride and treat this as a longterm investment. China is not for the cautious and there will be significant dips along the way.

Advisers recommend having up to 20% of your portfolio in emerging markets, depending on the amount of risk you are prepared to take. But you should have no more than 5% in a single country.

Tim Cockerill, head of research at adviser Rowan & Co, selects the wider-ranging First State Asia Pacific and Martin Currie Asia Pacific which carry substantial investments in Hong Kong and China.

Above all, it's worth timing your investment for a downturn. Mark Dampier, head of research at adviser Hargreaves Lansdown, recommends Jupiter China and Neptune China. 'Wait for a bad day in the markets and then buy,' he says. At least you can be sure there will be a fair few of those.

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