Latest Emerging Markets (Unconstrained) economic and market outlook.
New ‘lines in the sand’ have been drawn that determine how China’s internet giants can behave. For example, the ‘996’ culture – where employees typically work 9am-9pm 6 days a week – is effectively over as it was seen to be exacerbating the problems of a poor work-life balance, low birth rates, and wealth accumulation being concentrated in the hands of a relatively small number of employees. At the same time, data security and hosting must be localised, with proper ‘Chinese walls’ being erected between the operating companies of the large platforms. Meanwhile, private capital cannot invest in the education sector for profit, given the incongruence between profit maximisation and societal benefit. It is a similar story in the healthcare sector. These moves are in line with China’s new ‘common prosperity’ goal, and the message from Beijing is loud and clear. For many years China’s internet giants have benefited from a lack of foreign competition, low tax rates and government support. Now they must do more for wider society. Ultimately this will mean higher taxes, labour costs and charitable donations. Tencent and Alibaba have already pledged RMB50bn and RMB100bn respectively to the government over the next 5 years to help with common prosperity initiatives. Others will surely follow their lead.
Clearly these are negative developments from an investment perspective. However, with many internet companies now trading at 5 or even 10-year lows, much of the bad news would appear to be in the price. This seemed to be confirmed when Tencent actually bounced following an announcement that online gamers under the age of 18 will only be allowed to play for an hour on Fridays, weekends and holidays. While the operating environment will undoubtedly be more challenging for these companies going forward, platform dominance will persist, and earnings growth should remain above 20% for the industry as a whole.
With uncertainty starting to diminish and the risk/reward seemingly skewed to the upside, the obvious question is why we haven’t been committing significant capital to the space. In fact, we have continued to sell some of these companies such as JD.com, where we expect a prolonged regulatory overhang, particularly at JD Health. The simple answer is that we see better places to generate returns at present, most notably the environmental thematic, where government policy remains unquestionably supportive. Thus, capital from the internet space has been redeployed to environmental names such as wind blade manufacturer Sinoma and solar equipment company Beijing Jingyuntong. Other key themes that we are exposed to in China include cloud/data and property management. Given that all data generated in China must now remain in the country, domestic companies and multinationals will have little choice but to use local data centres to keep all their customer data. We own Kingsoft Cloud and 21Vianet, both of which should be major beneficiaries. We also own property management company KWG Living as we believe it is anomalously cheap and growing rapidly, with strong free cash flow and limited regulatory risks.
Elsewhere in Asia, we remain significantly overweight Indian Financials, where results have generally been very encouraging. We recently added further domestic cyclical exposure by participating in the IPO of cement company Nuvoco as we continue to expect strong property and capex cycles in India.
In Latam we remain broadly neutral Brazil, where we have exposure to oil and steel. We are reluctant to commit significant capital here against a backdrop of increasing political noise into next year’s election, with Lula continuing to make progress in the polls against Bolsonaro.
In EMEA, we remain overweight Turkey, where base effects should see inflation start to fall in the coming months, causing real yields to pick up and the currency to strengthen in a virtuous circle.
More broadly, we remain positive on markets, with a cyclical tilt to the portfolio and overweight exposure to Materials, Industrials and Technology. This is a reflection of our view that global growth will remain stronger for longer. Indeed, demand is clearly outstripping supply in many areas, from commodities such as copper to various forms of labour in the west. We expect this to catalyse an investment cycle which, when combined with strong consumer balance sheets and stimulative policy, should prolong the global recovery.
Nothing in this document constitutes or should be treated as investment advice or an offer to buy or sell any security or other investment. TT is authorised and regulated in the United Kingdom by the Financial Conduct Authority (FCA).